Toronto Homes & Real Estate - REMAX Hallmark Realty Ltd.

Should I take a variable rate mortgage or a fixed term mortgage?

08 August 2014
REMAX Hallmark

One of the first decisions a homebuyer must make is whether to select a fixed or variable rate mortgage.  With a fixed rate mortgage the mortgage rate and payment you make will stay constant for the term of your mortgage.  With a variable rate the mortgage rate will change with the prime lending rate as set by the lender.  A variable rate will be given as Prime +/-; i.e. Prime – 0.50%.  Though prime may fluctuate the relationship to prime remains a constant over the term.

Here is a quick descriptions of a Fixed Rate mortgage:

Set for the duration of the term.

o    Pro: Payment is set for the duration of the term.

o    Con: If the difference between the variable and fixed rate is significant it may not be worth paying a premium for the stability of a fixed rate.

Here is a quick description of a Variable Rate mortgage:

Fluctuates with the market interest rate known as prime rate.  Mortgage payments either fluctuate with the changes in prime or the interest portion of the payment varies:

o    Pro: Historically variable rates has been proven less expensive.

o    Con: Consider the financial uncertainty an increase in prime will increase your interest payment and financial burden.

The popularity of fixed rate mortgages are very common; essentially 66% of all mortgages in Canada.  Fixed rates are more common in younger age groups while older groups are more likely to opt for a variable rate.  When you compare a fixed rate versus a variable rate you can consider the spread between the variable and fixed as the price of insurance that lending rates will not increase.  If the spread between the variable rate and the fixed is significant it may be not worth paying the premium for the stability and protection of the fixed rate.

Fixed rates follow the pattern of Canada Bond Yields, plus a spread, and bond yields are driven by economic factors such as unemployment, export and inflation.  Variable rate mortgages are driven by similar economic factors except the variable rate fluctuates with movements in the prime lending rate, the rate at which banks lend their credit to the consumer.  The Bank of Canada adjusts their prime rate depending on economic factors mentioned above.  Unemployment, export and manufacturing values shape the inflation rate.  When inflation is high the Bank of Canada will increase the prime rate to make borrowing money more expensive.  Conversely, when inflation is low the Bank of Canada will decrease the prime rate to stimulate the economy and improve the attractiveness of borrowing.

Lenders base their discretionary pricing on the variable rate based on their desire to gain market share, competition, marketing strategies and general market conditions.  These are the same factors that drive the spread between lender’s fixed rates and bond yields.

Alain Lavoie Broker, AMP - 416-419-0359

Verico-Capital Home Lending