How to choose between a fixed or variable rate mortgage


April 1,2019

Author: Mathew Lajoie



The hours of scrolling through real estate websites are finally over. No more open houses, market speculation, or dwelling on the one that got away.
 
You found the home that’s perfect for you, and now it’s time to find the mortgage that’s right for you too.
 
To do this, it’s important to understand the benefits and drawbacks of your main options – fixed rate mortgages and variable rate mortgages.

 

Fixed rate mortgage

A fixed rate mortgage means that the interest rate you secure remains consistent for duration of the term.
 
What are the main benefits of fixed rate mortgages?
 
Benefit 1: Predictability
A fixed interest rate means that your weekly, bi-weekly, or monthly payments will remain consistent for the term of your mortgage.
 
Benefit 2: Risk mitigation
Through the term of your fixed rate mortgage, it doesn’t matter if rates rise, your payments will remain the same. This can save you money and can be great if you are risk-averse.
 
What are the potential drawbacks of fixed rate mortgages?
 
Drawback 1: Decreasing interest rates
There is potential to miss out on decreasing interest rates over your term if you lock in at a fixed rate, which would save you money.
 
Drawback 2: Higher penalties
It is common for there to be larger penalties for getting out of a fixed rate mortgage, so if you think you might sell your home before your term is up, this should be a consideration.

 

Variable rate mortgage

A variable rate mortgage means that the interest rate will fluctuate over the term of your mortgage based on any movement in your lender’s prime rate.
 
It is important to understand how your lender arranges payments.
 
In some cases, your payments may vary with changing interest rates – as the prime rate goes down, your payments would go down, and as the prime rate rises, so would your payments.
 
In other cases, your mortgage payments might remain consistent for the term, but the amount that is applied toward your principal hinges on the interest rate at the time – if the prime rate goes down, more of your payment goes toward your principal, and if the prime rate goes up, you would pay more in interest.
 
What are the main benefits of a variable rate mortgage?
 
Benefit 1: Potential savings
Typically, variable rate mortgages carry a lower interest rate than their fixed counterpart allowing you to take advantage of savings initially, and potentially through to the end of your term.

Benefit 2: Lower penalties
If you sell or choose to refinance your mortgage mid-term, the penalty to break contract will typically only cost you three months’ interest. Whereas breaking a fixed rate mortgage (closed) carries a penalty of the greater of three months’ interest or interest-rate differential (IRD).

What are the potential drawbacks of a variable rate mortgage?
 
Drawback 1: Increasing interest rates
There is always a chance that increasing interest rates could work against you – costing you more money.

Drawback 2: Uncertainty
For some people, the uncertainty of not knowing exactly what your rate and expenses will be over time can be stressful.

 

So, which option is right for you?

A fixed rate mortgage might be right for you if:
  • You like to plan and stick to a strict budget
  • You want to know exactly what your regular payments will be
  • You’re okay paying a little more for the predictability that comes with a fixed rate
 
A variable rate mortgage might be right for you if:
  • You want to try to get the best possible deal
  • You think that you might be moving before the end of your term
  • You are okay with possibly needing to pay more for the chance at longer-term savings
 
What’s your next step?
Use our mortgage calculators to help you figure out how much your mortgage payments will be and what size of mortgage you can afford.

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