- Paying a lower interest rate
- Repaying the mortgage faster
Rates are tied directly to the length of the term on the mortgage, the most common term length is five years. Terms range however, anywhere from 6 months to 10 years, and each term length carries with it a certain amount of risk. Lenders therefore assign an interest rate to mitigate that risk. The higher the risk perceived by the lender, the higher the rate will be. Really short terms (less than 3 years) are considered higher risk for lenders because they don't provide enough time for them to recoup their costs and make a reasonable profit. The same is true for longer term mortgages; (greater than 5 years) because the longer money is loaned out at a specific fixed rate, the greater the chances current rates will exceed that fixed rate. This costs the lenders because they can't lend that money out again at the higher rate.
Another factor in determining the interest rate on Fixed Rate Mortgages is whether or not the term is Open or Closed.
- Closed mortgages are locked in, and do not allow the borrower to break the terms of the loan without paying an interest penalty. This can be a significant amount of money. The penalty however, mitigates risk for the lenders by guaranteeing a minimum return on their investment, and therefore allows them to charge a lower interest rate.
- Open Mortgages are as the name implies; Open. The loan still has a fixed interest rate, guaranteed not to change for the life of the term, but the borrower now has the option to break the mortgage without paying penalties, at any time during the term. Lenders charge a higher rate for this privilege however, as they no longer have the assurance on their return. The risk is deemed higher.
Another factor to be considered is Mortgage Insurance. Canadian law requires all High Ratio Mortgages, (that is, loans greater than 80% of the value of the property) must be insured. Mortgage insurance will reimburse the lender if the borrower defaults and the property cannot be sold for enough to repay the loan. This serves to mitigate risk for the lenders, and allows them to charge a lower interest rate, but it also comes at a premium which is charged to the borrower. For more information on Mortgage Insurance, please talk to your agent.
Finally, the best way to minimize the cost of your mortgage is by paying it off as quickly as possible. You can cut years off your mortgage and save literally tens of thousands of dollars, simply by switching to weekly, or bi-weekly accelerated payments. By paying your mortgage on a weekly or bi-weekly schedule, you effectively make one extra payment a year which is applied directly to the principal of the loan. This serves to greatly reduce the amount of time required to repay the loan.
