To go variable or not to go variable? This will be one of the great questions regarding Canadian mortgage rates in 2010. Since the beginning of 2008, Canadian home owners have been fortunate to benefit as the Bank of Canada dropped its interest rates lower and lower until its hovers near the floor with a 0.25% overnight interest rate.
Mortgages rates have obviously followed this trend and it is now possible to have a variable mortgage at prime (2.25%) or even lower if you negotiate with your banker (anyone had heard of prime – 0.25% yet?). However, some people may also be tempted to lock in their mortgage rates for a five year term for a little less than 4.00%.
While I don’t plan on playing the economic oracle, I’ll share with you my thoughts on fixed versus variable mortgage loans according to the current economic situation.
I am not a big fan of fixed rate mortgage loans and even though the variable mortgage rates will increase in the upcoming years, I still think it would be a bad move to switch for a fixed rate mortgage loan.
Our economy grows faster than the US economy and our dollar is still pretty strong (thanks to the resources boost!). Increasing drastically the short-term interest rates in this situation will likely strengthen our dollar and push it over parity. This is something we surely don’t want as our manufacturing industry will suffer, cuts jobs and we will go back to the same slow motion economy. As previously mentioned the government will probably reduce the maximum amortization for a mortgage back to 30 years or increase the minimum cash down requirement in order to slow down the housing boom.
With that said, there are still 2 reasons why you should go for a fixed mortgage rate:
If you just purchased your home and you are running on a tight budget already, you certainly can’t afford a rising interest rate environment. Therefore, it’s not worth taking chances with being wrong in your interest rate predictions. Lock down your mortgage loan rate around 4.00% or less for 5 years and concentrate on paying down your debts while increasing your income so you can enjoy the interest rate fluctuations of a variable rate in 5 years.
Then again, if you can afford interest rate fluctuations over time, you may want to consider the variable rate. However, if you prefer to keep your investment return projections steady, you can go with a fixed mortgage rate (that is tax deductible on top of that!). With a fixed payment, you will know in advance how much you will receive per month for the next 5 years (unless your renters do a fly by night ).
I think it is still the best choice even if you know for sure that interest rates will go up sooner than later. Why? Simply because you must look at a picture larger than the span of 5 years. (not to mention than the financial institutions always cover the fixed rates with a safety premium that borrowers gladly cough up!)
When buying a property, you probably took at a 25 – 30 year mortgage loan. Therefore, you should be worried about which interest rate strategies you must take in order to pay the less interest possible over the span of 30 years… not 5 years.
Mathematically, the variable interest rate has always been cheaper over a 20 years amortization period or greater. I can guarantee you that you will pay more interest compared to a 5 years locked-in mortgage rate once in a while. However, over the long run, you will benefit from the interest rate dips and pay less in interest (or pay down your mortgage faster).
image source: woodleywonderworks
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