Should I go fixed or variable?

A question that George and I get asked a lot is “should I go with a fixed or variable interest rate?” and there is an argument to going either way.

To begin with here is a quick breakdown of the difference between the two:

A fixed interest rate is exactly what it says on the tin, the interest rate is fixed for the duration of the mortgage term and that means the payment that you have will not change if the Bank of Canada raises interest rates.

A variable interest rate is a discount of your lender’s “prime rate” which is ultimately tied to the Bank of Canada’s overnight rate. This means that your payment fluctuates when the interest rates change. Hold on a minute, what is the overnight rate you ask?! It’s complicated and I’ll let the them explain here.

With that brief explanation of the two, what are the pros and cons?

Cons

Fixed

• The payout penalty called the interest rate differential can be

  incredibly large

• Interest rate is going to be higher than the variable

Variable

• If interest rates increase, so does your payment

Pros

Fixed

• Payment stays the same

• Great for budgeting

• Peace of mind if rates increase

Variable

• Lower interest rate than fixed

• Payout penalty is only three months of interest

• If interest rates go down, your payment goes down

So now that you have seen the pros and cons of the two, here are my thoughts.

If you are somebody who is risk averse and likes to know exactly what your payment is going to be each month then fixed is the way to go. You will need to remember though that if you break your mortgage before the end of the term, which on average people do at 33 months, you can trigger that large penalty call the interest rate differential.

If you are concerned about the potentially larger penalty and would like to capitalise on the lower interest rate then variable is the way to go. Something that a I recommend people do with variable is to figure out that the fixed payment would have been and then when you move in, set the payment up to that amount.

Here is an example for you, based on the interest rates as I write this:

House price $450,000
Down payment 5%

Variable payment is $1,695
Fixed payment is $1,944

That is a $249 difference!! If you increase your payment by $249 each month that extra money is going straight to your principle which is lowering that bit by bit which in the end is going to pay your mortgage down sooner. And the best bit? If interest rates do increase you shelter that increase in the extra amount you are paying, just a little more now goes to interest.

If you have any questions about this please don’t hesitate to get in touch.

Thank you 🙂