There is a variety of mortgage products offered in Canada – probably more than we will every know or need to know. In most cases, we rely on mortgage professionals to advise us about the mortgage type that we should select. Nevertheless, you should be familiar with at least the most common types of mortgages offered in the industy before choosing the one that best suits our needs. Let’s take a look at some of them.
A fixed-rate mortgage is the type of a mortgage whose interest rate is fixed for a particular period of time. When we talk about a 5-year or a 3-year fixed mortgage, we are usually talking about a fixed mortgage. Choosing a fixed-rate mortgage guarantees you a specific rate for a specific period of time.
A fixed-rate mortgage is usually a closed mortgage, meaning that it cannot be paid out in full prior to the maturity, without incurring a penalty. With this type of a mortgage you are usually allowed to make a pre-payment against the mortgage principal, which could be anywhere between 10% and 25% of the original principal amount. You are also allowed to increase your regular payment, in some cases as much as 100% of the original payment amount. For example, if you had a $200,000 mortgage with $1,200 monthly payments and a 15% pre-payment option, you would be able to put additional $30,000 against your principal annually and increase your payment up to $2,400, without penalty.
A variable-rate mortgage is the type of a mortgage whose interest rate fluctuates with the Canadian Prime Rate. The Prime is a floating interest rate set up by the Bank of Canada, which is used to control the economic activity in the country. In other words, if the Bank of Canada feels that the inflation is on the rise, it would increase the Prime to control the inflation. If the Bank of Canada feels that the economy might be going into recession, it would decrease the Prime to induce additional spending and in such way boost the growth of the economy. Having a variable-rate mortgage means that your mortgage rate is going to change every time the Prime changes.
Variable-rate mortgages could be either closed or open. Closed variable-rate mortgages are subject to similar policies in terms of pre-payment and payment increase options as with closed fixed-rate mortgages. When it comes to variable-rate open mortgages, you have the ability to pay out your mortgage in full without penalty. This additional benefit is usually subject to additional premium on your rate, as variable-rate open mortgage rates are typically higher than variable-rate closed ones.
Variable-rate mortgages are usually convertible, meaning that they could be switched to a fixed rate at any time, without additional cost to you. If you are a client who feels that the fixed rates will go down over the next few months, you could chose a variable mortgage and then switch to a lower fixed rate when the fixed rates decrease.
Home Equity Line of Credit (HELOC)
The HELOC is probably the most sophisticated mortgage product offered in the industry at the present time. The HELOC is really a Line of Credit secured by your home. The rate on this product is usually equivalent to the Prime and in that sense changes every time the Prime changes. The minimum payment on a HELOC is typically equivalent to interest only, and the whole balance can be pre-paid at any time without penalty.
One of the biggest advantages of the HELOC is the option of locking some or the whole borrowed balance into a fixed or a variable rate. For example, if you obtain a HELOC equivalent to $200,000, you can select to lock $100,000 into a fixed rate for a specific period of time and leave the remaining $100,000 floating with the Prime. This will guarantee you a fixed rate on one part of your mortgage and the availability of pre-paying the remaining portion at any time, without penalty. It is important to know, however, that the locked-in portion is subject to standard pre-payment policies, as it is the case with all closed mortgages.
Another major advantage of a HELOC is the ability to borrow back from your line of credit, the limit of which always remains the same. The amount that you pay back against your principal automatically becomes available to you. Once you have paid, let’s say, $50,000 of your principal, you have the option of borrowing back those funds and use them for anything you like.
Although there is a variety of mortgage products offered by Canadian lenders, the above types constitute the major portion of all mortgages offered. My advice to you is to ask your bank or your mortgage broker about different types and features of mortgages before choosing the one that suits your needs the most.