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Should You Switch From a Variable-Rate to a Fixed-Rate Mortgage?

Jordan Lavin

As interest rates continue to shoot up, you may be wondering whether now is the time to give up your variable-rate mortgage and lock in a fixed rate.

Is switching to a fixed-rate mortgage the right move for you? What other options do you have? And how do you go about locking in a mortgage rate? Let’s take a look at the ins and outs of switching from a variable-rate to a fixed-rate mortgage.

What’s the difference between a variable-rate and fixed-rate mortgage?

When you get a mortgage, you have the opportunity to decide between a fixed mortgage rate and a variable mortgage rate.

When you get a fixed-rate mortgage, your interest rate is locked in for your entire mortgage term. Fixed mortgage rates tend to be higher at initiation, but are guaranteed not to change. You’ll have the same payment for the duration of your term, and, as long as you make your payments on time, you’ll know exactly how much you’ll still owe when it’s time to renew.

When you get a variable-rate mortgage, your interest rate can change over the term of your mortgage. When the lender’s prime rate changes, your mortgage rate changes by the same amount. Depending on how your mortgage is set up, your payment may change to reflect the revised interest rate, or you can keep the same payment by adjusting the proportion of it that goes toward paying down your balance.

 

Why would I want to switch from a variable-rate mortgage to a fixed-rate mortgage?

Interest rates are rising faster than they have in the last 20 years. If you have a variable-rate mortgage, the rate you’re paying today is 300 basis points (bps) higher than you were paying this time last year. That works out to an extra $3,000 per year for every $100,000 you’ve borrowed.

Experts are predicting that interest rates will rise a further 145 bps into 2023, potentially raising your payment another $121 per month per $100,000 you owe. On a $500,000 mortgage balance, you could be spending $1,875 per month more on interest by December 2023 than you were in January 2022.

Interest payment on $500,000 mortgage balance based on historic and future mortgage rates

 

January 2022

September 2022

December 2023

Mortgage Rate

1.25%

4.25%

5.70% (estimated)

Monthly interest payment

$521

$1,771

$2,375

Your monthly interest payment could more than quadruple from January 2022 to December 2023

One option to stop this trend of rising costs is to switch from a variable-rate mortgage to a fixed-rate mortgage and lock in an interest rate that’s guaranteed not to change for the entirety of your term, with five years being the most popular term length. 

I think I want to lock in a mortgage rate. What are my options?

If you’re worried about rising interest rates, you have three options when it comes to your mortgage. You can convert your existing mortgage from variable to fixed; refinance your mortgage to one that better meets your needs; or continue on with your existing mortgage. Each option has pros and cons and the right choice for you depends on your situation.

Option 1: Convert your existing mortgage from variable to fixed

The first option is to stay with your current lender and convert from a variable mortgage rate to a fixed one. This can usually be done with a phone call and without triggering any penalties.

The downside, however, is that you will have to lock in to your lender’s posted rate for the remainder of the term. For example, if you took out a 5-year variable-rate mortgage two years ago and wanted to switch to a fixed-rate mortgage today, you would pay your lender’s posted rate for a 3-year fixed-rate mortgage. That rate currently averages 5.74%, which is probably much higher than the rate you’re already paying.

Option 2: Refinance your mortgage to one that better meets your needs

Your second option is to refinance your mortgage entirely. This involves breaking your current mortgage and taking out an entirely new one, which leaves you free to shop around. You can get any mortgage from any lender and choose the rate and terms that work for you.

 This method may be preferable to sticking with your existing lender but comes at a cost. In addition to a pre-payment penalty of 3 months’ simple interest, you’ll also be saddled with your lender’s fees for discharging the mortgage. Further, you’ll need to hire a real estate lawyer to complete the transaction. And that’s all assuming you qualify for the new mortgage you want.

Option 3: Continue on with your existing mortgage

 Your third option is to keep on with the mortgage you already have. You may find that none of the other options are worthwhile and that you’re most likely to come out ahead by doing nothing.

If you do carry on as you are, you could find your mortgage rate continues to rise and the options for converting to a fixed-rate mortgage may not be as good as the choices you have now.

 

Convert existing mortgage

Refinance

Keep existing mortgage

Lock in mortgage rate

 

Get the best rate

 

 

No fees or penalties

 

No lawyer required

 

No credit check

 

Option to extend term

 

Option to extend amortization

 

 

Option to change your mind later

 

 

Check out the best current mortgage rates

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How do I decide which option is right for me?

Deciding which option is right for you depends on a few things, including whether interest rates will continue to rise in the future, whether you’re prepared to take that risk, and what you need from your mortgage.

Let’s compare all three options, assuming you currently have a variable-rate mortgage with a rate of Prime minus 1.20% (starting at 1.25% and currently 4.25%), fixed payments which you’ve already voluntarily raised to $2,800 per month, a balance of $500,000, 3 years remaining in your term, and a remaining amortization of 23 years.

Mortgage balance

Monthly payment

Mortgage rate

Term remaining

Amortization remaining

$500,000

$2,800

4.25%

3 years

23 years

Now, let’s use Ratehub’s mortgage payment calculator to consider a few scenarios: one in which rates rise moderately; and one in which rates rise rapidly.

Scenario 1: Rates rise moderately

Let’s compare your three options based on the assumption that rates will continue rising moderately, adding 25 basis points every 3 months over the next year before levelling off at 5.25%.

If you choose to convert your existing mortgage, you’ll lock in to a 3-year fixed rate of 5.74%.

If you choose to refinance, you’ll be able to get the best 3-year fixed mortgage rate in Canada of 4.39% at a cost of approximately $6,650 in penalties and fees. [Note: This assumes a pre-payment penalty of approximately $5,300 (three months’ simple interest), a discharge fee of $350, and lawyer fees of $1,000.]

And if you choose to keep your mortgage, you’ll see your interest rate rise from 4.25% to 5.25% over the coming year.

 

Convert existing mortgage

Refinance

Keep existing mortgage

Mortgage rate

5.74% fixed

4.39% fixed

Rising from 4.25% to 5.25%

3-year cost of borrowing

$82,311

$62,739

$72,752

Penalties and fees

$0

$6,650

$0

Total cost

$82,311

$69,389

$72,752

Monthly payment

$3,247

$2,870

$2,800

Balance owing at renewal

$465,416

$459,433

$471,139

In this scenario, you’ll save some money by refinancing your mortgage, but not a lot. Your payment will rise by $70 per month, but you’ll pay $3,363 less in interest and pay off just over $11,700 more than you would by keeping your existing mortgage.

At the same time, converting to a fixed-rate mortgage with your current lender would actually put you in a worse position. Your payment would go up by almost $450 per month and your cost of borrowing would increase by almost $10,000.

Scenario 2: Rates rise rapidly

Let’s try again assuming rates will rise rapidly, adding 50 basis points every 3 months over the next year before levelling off at 6.25%.

 

Convert existing mortgage

Refinance

Keep existing mortgage

Mortgage rate

5.74% fixed

4.39% fixed

Rising from 4.25% to 6.25%

3-year cost of borrowing

$82,311

$62,739

$84,403

Penalties and fees

$0

$6,650

$0

Total cost

$82,311

$69,389

$84,403

Monthly payment

$3,247

$2,870

$2,800

Balance owing at renewal

$465,416

$459,433

$483,602

In this scenario, you stand to save a lot more by refinancing your mortgage. You’ll save $15,000 in interest and be over $24,000 closer to paying off your mortgage after three years.

Converting your existing mortgage also appears beneficial. But what if you voluntarily raise your payment to match what you would pay if you converted?

 

Convert existing mortgage

Refinance

Keep existing mortgage

Mortgage rate

5.74% fixed

4.39% fixed

Rising from 4.25% to 6.25%

3-year cost of borrowing

$82,311

$62,739

$84,850

Penalties and fees

$0

$6,650

$0

Total cost

$82,311

$69,389

$82,889

Monthly payment

$3,247

$2,870

$3,247

Balance owing at renewal

$465,416

$459,433

$465,997

Refinancing is still the best option in this situation, as it stands to save you $13,500 in payments and an additional $13,500 in interest over three years. But converting your existing mortgage to a fixed rate leaves you with roughly the same outcome as doing nothing at all.

What else do I need to know about switching from a variable-rate to fixed mortgage?

There are a few things to keep in mind if you’re thinking about switching your variable-rate mortgage to a fixed rate one:

  • Switching from variable to fixed is easy. Switching from fixed to variable is hard. If you switch to a fixed-rate mortgage, it might not be so easy to switch back. The penalty for breaking a fixed-rate mortgage can be much higher than the penalty for breaking a variable-rate mortgage, especially when mortgage rates are going down.
  • Refinancing requires you to pass the stress test. To refinance your mortgage, you’ll need to qualify at a rate of at least 2% higher than what’s in your contract. If you don’t qualify for a new mortgage, you’ll be forced to stay with your old lender. For that reason, you may want to consider refinancing sooner than later if you believe mortgage rates will continue to rise.
  • Falling property values also affect mortgage affordability. In most cases, you can only take out up to 80% of the value of your home when you refinance. If your property value has fallen to the point where you can’t access enough equity to pay off your existing mortgage, refinancing will be a challenge.
  • Your monthly payment doesn’t tell the whole story. While cash flow is important, the amount of interest you pay is what makes your mortgage expensive. Make sure you’re taking the cost of borrowing into account, as well as the length of time it will take you to pay off your mortgage.
     

How can I go about switching my variable-rate mortgage to a fixed-rate mortgage?

If you’re still thinking about switching from a variable-rate mortgage to a fixed-rate mortgage, there are a few steps to take.

  1. Get in touch with your current mortgage lender. Let them know you’re thinking about making the switch and find out what your mortgage would look like. Be sure to ask about the monthly payment, interest rate and total cost of borrowing. Use the opportunity to ask about the cost of breaking your mortgage including any fees.
  2. Speak with a mortgage broker. A mortgage broker can help you understand your options and decide whether refinancing makes sense for you. They can also help you get pre-approved for a new mortgage and give you a clear picture of what you qualify for.
  3. Consider your needs. Give some thought to what’s important to you in a mortgage. Are you willing to make higher payments in exchange for better outcomes later on? How much would you need to save in interest to make refinancing worthwhile? Will you regret locking in a fixed rate if it ends up costing you more in the long run?
  4. Make the call. While it’s impossible to make this decision with perfect information, use what you know to make an informed decision and take action. Work with your lender or mortgage broker to make the changes you need to ensure your mortgage works for you.

The bottom line

Locking in a fixed mortgage rate can help bring stability in a time of rising interest rates, but the best choice for you depends on your unique situation and your appetite for risk. You may decide that the peace of mind a fixed-rate mortgage and its stability give you are worth paying a little extra. Work with your lender and a mortgage broker to gather as much information as you can, and carefully weigh your needs and options before making a decision.

Also read: 

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