Can I get a variable rate mortgage?How to create your own financial fitness test

Homes for sale in Toronto on October 26th.Eduardo Lima/Globe and Mail

Soaring degree of interest is bringing thorny personal finance questions to the forefront. mortgage?

often quoted 2001 study According to York University finance professor Moshe Milewski, from 1950 to 2000, Floating interest rate In terms of borrowing cost savings, it beats fixed mortgage rates 88% of the time.

But after six consecutive rate hikes bank of canadaProfessor Milewski told The Globe and Mail.

See how rising interest rates will affect your mortgage costs

Still, Canadians haven’t given up on floating rates. As of August, variable-rate mortgage originations are still rising compared to pre-COVID levels, according to a report by housing analyst Ben Rabidou. If interest rates begin to fall in the coming months, Canadians might be better off picking their variables today. But borrowers considering floating rates should always make sure they are financially okay, even if the timing is bad. However, it is not easy to do so.

Mortgage brokers often recommend that borrowers opting for variable rates have plenty of room in their budget. interest rate increase. Variable rate mortgage rates typically track the movement of the Bank of Canada’s trend-setting policy rates. On the other hand, with a fixed mortgage, the interest rate remains the same for the term of the mortgage (usually he is 1 to 10 years), giving the borrower more time to adapt to the rising interest rate environment. I can.

But the recent series of rate hikes by central banks raises the question of what is the room for appropriate budget increments. The policy rate he rose to 3.75% from 0.25% in early March. Rate hikes were faster and further than economists expected at the beginning of the year.

With a mortgage balance of $380,000, about the same as the average first-time homebuyer borrowed in 2020 and 2021, these rate increases mean an increase in cumulative payments of nearly $745 per month for some borrowers. To do.

Also, most Canadians have variable rate mortgages, meaning payments typically remain fixed as interest rates fluctuate, but some of these borrowers are under financial pressure. I feel It is because these loans are the so-called “trigger pointThis is the threshold at which regular monthly payments can no longer cover interest and lenders often start demanding more payments.

One possible approach for cautious borrowers might be to look at the long-term average of prime rates, according to David Field, a certified financial planner and founder of Papyrus Planning.

Borrowers can aim to ensure that their mortgage costs equal the payments they would face if they had interest rates equal to the historical average of the prime rate, Field said. . If your actual mortgage rate is lower than that, you can use the extra cash to prepay your mortgage and reduce the principal faster. If the prepayment limit is reached, the excess can be stored in a savings account to act as a reserve that can be used if interest rates rise above historical averages, he added.

But with home prices rising as they are now, only higher-income borrowers would be able to execute such a strategy in Canada’s most expensive market, Field said. “It’s not about the middle class,” he said.

The average monthly prime rate level going back to the early 1960s is about 7%. By comparison, today’s 5-year variable rate mortgages are in the 5% range.

Professor Milewski recommends broad stress testing of whether borrowers choose between fixed and floating rates.

If you have a large down payment and a relatively small mortgage, or if you’re on track to pay off your principal, you’re less sensitive to rising interest rates, he noted. Having a steady and predictable income will also make it easier to deal with rising borrowing costs, he added.

“It’s dangerous to have floating rates without at least four to six months of living expenses,” said Robert McLister, a mortgage strategist. “The last thing you want to do is see interest rates spike and pay more than this year, leading to emergency spending and lost income.”

As Professor Milewski explains, the variable rate mortgage financial suitability test is a bit of a checkbox exercise. Ticking most of the boxes makes it a strong candidate for floating rates, he said.

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