Mortgage Basics

I just spent time with First Time Home Buyers and there are so many factors to take into consideration when getting a mortgage so here are a few of the basics.

Fixed Vs Variable – Distinguishing these two is simpler than you think. Having a fixed rate is like having a “guaranteed” and unchanging rate for a period of time (usually a 5 year term), while variable rates fluctuate with the economy.
Fixed rates are set based on the current trading of bonds in Canada, while the variable rate is set according to the Bank of Canada’s prime rate of lending. Historically statistics say the variable rate usually outperforms the fixed (not by much) over the long haul, but the real choice you are making is predictability or no predictability, which do you prefer?

Open Vs Closed – An open mortgage allows you to pay back the amount you borrowed whenever you want, without penalty. A closed mortgage will have restrictions on this privilege. This is a very import factor when deciding on a mortgage.
Sometimes, you will pay a slightly higher interest rate on an open mortgage. This is the banks way of mitigating the risk that you might pay them back early. If you do, they will not collect as much interest from you long term, so they try to make it up in the short term with the higher rate.

Amortization – The amortization is simply the length of time the bank uses to determine your monthly payment. For example, “if” you take 25 years to pay the bank back monthly, your payment will be “X”. Alternatively, “if” you take 35 years to pay the bank back monthly, your payment will be “Y”. The longer the amortization is, the lower your monthly payment will be but be careful, you will also pay much more interest along the way!

Term – It’s important to distinguish between “amortization” and “term” when arranging your mortgage. Your term is simply the length of time your agreement with the bank will last. If its 5 years, then you and the bank agree to a set of contractual obligations like interest rate for that period, then both parties have the opportunity to renegotiate or renew the agreement at the end of the term.