The best rate will save you hundreds, but the wrong term can cost you thousands
Our friend and mortgage expert John Shearer is advising RateHub readers this week on the feasibility of the rarely elected 10-year mortgage.
Too often borrowers are concerned with getting the lowest mortgage rate, not realizing locking in to the wrong term can be significantly more expensive.
Although it does not happen often, every once in awhile, a customer will inquire about a 10-year term. Record low interest rates and the inevitability of rate increases have drawn some customers to longer terms as of late.
The 10-year mortgage allows maximum risk aversion, and the knowledge your mortgage payments will not change over the course of a decade. This kind of security comes at a price, however.
Mortgage rates are priced on the risk posed to the lender. So, simply put, the longer you lock in the security of a set interest rate, the more you will have to pay the lender.
Anecdotal evidence suggests a 10-year term has historically been offered at a typical premium of 1.25% more than the 5-year term, which is the most popular mortgage term in Canada.
You may be willing to pay a premium for future protection, but let’s look at how much that extra security will cost you in the short term and also how many times the added security has paid off in the last 25 years.
For the purpose of the following examples, let’s use a premium of 1.00% on the 10-year mortgage compared to the 5-year mortgage. This simplifies our discussion as well as provides a conservative outcome.
(Note: A recent synopsis of lenders’ rate sheets indicate 1.00% as the average difference between 5- and 10-year terms)