Don't let fear guide you into costly mortgage mistakes

Fear of rising interest rates is causing more Canadians to opt for fixed-rate mortgages over variable-rate alternatives that could save them thousands of dollars in payments, according to a leading expert.

Justin Thouin, CEO and co-founder of LowestRates.ca, is calling for consumers to base their mortgage decisions on 30 years of downward trending rates, rather than locking in on a guess about what the Bank of Canada will do during the life of a mortgage.

“Canadians have become more concerned about not being able to pay their mortgage. They want to lock their mortgage rate in so they know the amount they have to pay in interest,” he told CTVNews.ca. “It’s a fear-based response.”

The Bank of Canada cautiously held its key interest rate at 1.25 per cent on Wednesday, citing trade uncertainty and weaker than expected GDP growth in the final months of 2017. However, the bank’s references to slowing household credit growth, firmer wages, and inflation running close to its two per cent target suggest hikes may be on the horizon.

The Bank of Canada’s overnight lending rate influences the interest rate at which financial institutions lend money to their clients. It’s the rate major financial institutions borrow and lend one-day, or “overnight,” funds to one another. It climbed to its current level in January after reaching a record low of 0.25 per cent in April 2009, in reaction to the global recession.

Mortgage shoppers who visited LowestRates.ca in the first two months 2018 are reversing a long-standing trend with their preference for borrowing at a fixed rate.

Between January and February, 60.9 per cent of applicants who used the comparison site chose a fixed-rate mortgage over a variable rate. Since January 2014, 56.6 per cent of applicants have chosen variable rate mortgages.

“It’s nearly a 20 per cent swing from our historic averages, so it’s quite pronounced,” Thouin said. “These people are thinking, ‘If rates continue to rise, I need to lock something in to make sure I’m not in jeopardy of losing my house.’”

Statistics Canada data shows a pronounced downward trend in five-year fixed mortgage rates between the early 1980s and 2013. Thouin is confident that momentum will continue as the Bank of Canada weighs the risks higher interest rates pose to heavily indebted Canadians.

“That will preclude the Bank of Canada from hiking the rate too many times. The government does not want Canadians to lose their houses,” he said. “The lowest variable rate on our site for five years is 2.20 per cent. The lowest (five-year) fixed rate on our site is 3.03 per cent. There would need to be more than three rate hikes in order for those to be even close to one another.”

LowestRates.ca gives the following example of home purchased for $750,000 with a down payment of 10 per cent, amortized over 25 years:

If a consumer purchases a home for $750,000 (with a down payment of 10 per cent amortized over 25 years), at a five-year, variable rate of 2.20 per cent, they would have a total monthly mortgage interest payment of $3,025. If the Bank of Canada increases its overnight rate by 25 basis points, that homeowner's monthly interest payment on their mortgage would be $3,111 — an increase of $86 per month.

That same homeowner using a fixed mortgage rate — the most competitive fixed product on LowestRates.ca last month was 3.03 per cent — would have a total mortgage payment of $3,315. While they can lock in that rate for five years, they're still spending $290 a month more in interest when compared to the variable product, even after variable rates go up. A total of $3,480 a year in increased costs.

“That is a huge amount of money. Over 25 years, that’s $87,000,” Thouin said. “The numbers say go variable, but fear makes people make sub-optimal decisions.”

Always take professional advice before you make any decisions of a large financial nature.

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