Mortgage Decision Making: Embrace, Don’t Fear the Variable

Mortgage Products Shaun Serafini 31 Mar

Ah yes, the age-old ‘Fixed vs Variable’ debate when it comes to mortgages…

Analysis from one of our top lenders:

“There is the notion that the big, trend-setting lenders will be looking to move (fixed) rates up to bolster profits. As well, Bank of Canada Governor Stephen Poloz has hinted he might be willing to let inflation run in order to avoid hiking the policy rate. That would put upward pressure on government bond yields (Also affecting fixed rates). As for variable-rate mortgages, the betting is there will not be a Bank of Canada increase, holding variable rates in place for the foreseeable future.”

You read what the above quote is essentially saying right? Fixed rates are where banks etc. can turn to and manipulate to boost profits. Profits are good if you are a shareholder of a bank. Profits aren’t as cool if you happen to hold a borrowing instrument from one of those same banks. There’s a big reason that most banks aren’t rushing to market and push variable rate mortgages even though almost every one of them definitely has this in their arsenal. The reason is because variable mortgages typically favor the customer, or at least aren’t AS profitable as the fixed rate option.

Here’s an informative blog that a colleague of mine wrote: https://dominionlending.ca/news/top-4-reasons-why-a-variable-rate-mortgage-can-put-you-further-ahead/

In particular, the point that I find most relevant is the penalty calculation, usually a point that isn’t even brought up in the original mortgage application process. On a variable rate, the maximum penalty that can be charged is 3 months interest, in your guys case likely less than $2000 and a pretty basic calculation. A fixed penalty is a different beast altogether. The penalty on a fixed is the GREATER OF 3 months interest or a dreaded Interest Rate Differential (IRD) calculation. The IRD can be very punitive (I’ve seen over $20,000) and very difficult to calculate as it is based on bank posted or bond rates which change daily.

Here’s another colleague blog post that I like as it’s short, sweet and to the point: http://bit.ly/ARMvsFixed

My summary – Don’t believe media fear mongering suggesting to “lock in now or else!” whenever these headlines pop up. A variable rate strategy can be a very strong move to hammer down principal on your mortgage over the next 12-18 months.

Consider the strategy where we set your payment to what you’d pay on the higher fixed rate — all that extra money goes direct to principal. Net result, when / if rates rise, your balance is significantly lower and your budget already fits the rate increase. Despite what some publications would have you believe, rate increases are gradual and should not drastically affect most people’s cash flow situation. Sure your rate could be higher than present day fixed rates years down the road. This is no different than saying putting your money in GICs could produce a better result than investing in Apple stock. I’m willing to bet (and I have with my own personal mortgages) however, that the savings / net worth improvement that can result in the next 12-18 months plus added flexibility in reduced costs/penalties related to variable mortgages wins out over fixed in almost all circumstances. Decades of financial data on mortgage rates in Canada support variable mortgages consistently beating fixed, often by a large margin: (NOTE: Blue=fixed / Red=Variable)

Mortgage product selection is one small aspect of the value that an independent mortgage professional can offer clients. A licensed mortgage professional should bring more to the table than simply an approval and a low rate. By reviewing our client’s entire financial picture and outlook, we help build a plan that best aligns with the individual borrower’s goals & saves the most money overall on your mortgage, now and in the future.

Using a HELOC to Enhance your Financial Position

Mortgage Products Shaun Serafini 13 Mar

Do you have a large amount of equity built up in your home? Are you looking to further enhance your financial position? A HELOC may be just the type of financing that you are looking for.

HELOC is an abbreviation for Home Equity Line of Credit. Basically, a HELOC is a credit account that is secured by property that a person owns. This account can be drawn against for any number of reasons, such as paying bills, consolidating debt, making a large purchase such as vehicle, additional property, financing a new business venture, investing for retirement etc.

The HELOC option when used properly, can be a very powerful tool when looking to enhance one’s financial position. In most cases the interest rate offered on a HELOC is much lower than an unsecured credit line and funds available can be much higher because the line of credit is secured by valuable property. The interest rate on HELOCs typically sits at/around Prime rate, whereas unsecured lines usually are offered at Prime plus anywhere from 2 to 5%. Considering that retail credit cards often pack interest rates of up to 29.9%, you can see why it makes a lot of sense to have the option of a HELOC, especially for large purchases.

Aside from interest rate, there are several other attractive options that a HELOC can provide:

Interest Only payments –most Home Equity Lines allow for interest only payments, meaning your monthly obligation would be less than on a mortgage of the same amount. There is no amortization schedule or commitment to pay back principal required. This feature can prove very useful for cash flow management and is a major component of my investment property strategy for clients.
Fully-open – unlike a mortgage, there are no early payout fees if you decide to pay-off the line of credit. This option is very attractive to investors who are in the “Fix & Flip” or short term investment business.
Revolving Credit – The amount that you have registered for your line of credit is at your disposal for as long as you own the property. If you have a $200,000 line, you can use up to that amount at any time. That means no more having to wait for approval from a bank or lender in the future on large purchases.

A Home Equity Line also can work to enhance investments other than real estate such as RRSP purchases. If a person has $45,000 in RRSP room on their income tax available, wouldn’t they like to know that they have the option of making this max contribution if they feel it’s in their best interest? By setting up a home equity line and consulting a financial planner, one may be able to set up a plan that satisfies both short term and long term tax and investment strategies.

Think of these scenarios and imagine the benefits of a HELOC in each case:
• We’re renovating our house (improving our living and our asset)
• I’m consolidating my debt so I can get it paid off sooner
• I’m financing my own business
• We’re buying a revenue property and are concerned about cash-flow from rent / vacancy
• I’m clearing my credit cards to lower my borrowing costs
• We’re finishing our basement as a rental suite (to earn more income)
• I’m sending my daughter to university
• I’m reinvesting my mortgage to reduce my taxes
• We’re planning and paying for a wedding
• We would like to put a HELOC on our rental property so we can pay off the mortgage on our personal home.

 

As mentioned, a HELOC can provide many strong options to investors who have equity built up in a home. Homeowners can typically borrow or set-up a HELOC up to 80% of the value of a home.

Despite the advantages of flexibility and convenience, HELOC’s are not for everybody and require a higher level of financial management than a typical mortgage loan. For this reason, the requirements for obtaining a Home Equity Line of Credit are much tighter than on a traditional loan. In most cases, HELOCs are reserved for customers who display very high credit ratings and strong credit history. The interest rate on this type of account is tied to prime meaning that as interest rates go up, so too will monthly obligations.

As with any financial decision, it is always recommended that you consult with a professional. A mortgage professional specializes in consultation with clients in regards to mortgage and loan options and knowledge of all products available. It is our job to align you with the mortgage product that best fits your financial scenario / situation.

Please feel free to contact me for questions on HELOC’s or any home financing related questions.

If you’d like to apply for a new mortgage, click HERE to start with our secure online application. 10 mins is all it should take to get us working on your behalf.