What happens when you switch to a fixed rate from a variable?

On October 24th, the Bank of Canada announced an increase of 0.25 percentage points to their overnight rate. With more increases predicted in 2019, many variable rate mortgage holders are wondering if now might be the time to lock into a fixed mortgage.

So what happens when you switch to a fixed from a variable anyway?

1. You’ll pay more interest

Generally speaking, fixed rates are higher than variable rates of the same term. You’d consider locking in mid-term to hedge yourself against a potentially higher variable rate in the future. But by fixing it mid-term, you’ll always end up paying more interest in the short term and, in most cases, the long term as well.

The Bank of Canada has 8 scheduled announcements per year ,and they rarely move more than 0.25 points per announcement. So it could take years for the future variable rate to even match today’s fixed rate.

2. It will cost you more to break your mortgage

Although each bank calculates differently (the big banks being the worst) the penalty to break a mortgage, breaking a variable rate mortgage will typically cost 3 months interest or 0.5% of the mortgage balance. Meanwhile, breaking a fixed rate mortgage with the Interest Differential Penalty (IRD) could mean paying up to roughly 4% of the mortgage balance.

6 out of 10 Canadians will break their current mortgage at an average of 38 months. If you’re dealing with a 5-year term, an IRD has the potential to cost you a lot of money. That’s certainly worth considering before locking in.

Now, of course, each person’s financial situation is different, and it’s impossible to provide one-size-fits-all advice. There may be circumstances that warrant locking in, so if you want to discuss your mortgage and what the numbers look like for you, please reach out anytime!

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