Interested in Interest Rates? Here’s What You Need to Know

Interested in Interest Rates? Here’s What You Need to Know

Interest rates in Canada have been a pretty popular topic as of late. Although the Bank of Canada has kept interest rates at the same level in March, previous increases and the prediction that interest rates could soon rise again have Canadians curious about how this rate change may affect their mortgage (including mortgage renewals), and their mortgage payments.

If you’re interested in interest rates, it’s a good idea to have a solid understanding of how they work, how they are calculated and how they affect you. Here are the key things you need to know about interest rates and your mortgage.

The lowdown on interest rates and your mortgage

 Let’s start with the basics. Essentially, an interest rate is the percent of the principal amount of your loan that is charged by your lender for the use of the loan. The ‘principal’ refers to the amount you have borrowed.

 Mortgage rates are applied to your mortgage using something called compound interest rather than simple interest. With simple interest, you could calculate the amount of interest you will pay by simply applying it to your principal. Compound interest doesn’t quite work like that. Instead, compound interest is calculated in set intervals based on the amount at that time. For example, say your mortgage is compounded on a monthly basis and the principal of your loan is $300, 000 with an interest rate of 1%.  The first month you would be paying $3000 in interest payments and this amount would then be added to your loan principal. Next month, you would be paying interest on this compounded amount, meaning you would be paying $3030 in interest.

 Variable versus fixed rates

 The amount of interest you will pay on your mortgage also depends on the type of mortgage you choose. A fixed rate mortgage is a mortgage in which your interest rate is locked in and remains consistent despite fluctuations in market conditions. This type of mortgage is a great option for those with a set budget who feel more comfortable knowing what their mortgage payments will be throughout the entire mortgage term.

 A variable rate, on the other hand, will either increase or decrease according to current market conditions. If interest rates decrease, those with a variable mortgage will be paying more towards the principal of their loan. However, the opposite is true when rates increase. Variable rates are good for those who can tolerate a little risk and have done their research regarding interest rate predictions. This handy calculator is a great tool to help you understand how different interest rates would affect your mortgage payments.

 Prepayment penalties

 The final thing you should know about interest rates and your mortgage is that paying off your mortgage early might mean you need to pay prepayment penalties. Depending on the terms of your mortgage agreement, your mortgage may include a prepayment privilege that stipulates how much money you can put towards paying off your loan above and beyond your regular mortgage payments. If you go over this amount or pay off your loan before the term ends, you may have to pay a penalty. This amount is generally calculated as either 3 months interest on what you still owe, or the Interest Rate Differential (IRD), which is the difference between the amount of your actual mortgage interest rate and the amount that the lender may charge today.

Typically, prepayment penalties are only applied to a fixed-rate mortgage. They also vary from lender to lender, so it’s always advisable to check the conditions of your loan before signing on the dotted line; you don’t want any unwelcome surprises. For more information on pre-payment penalties and your responsibilities, check out this helpful website from the government of Canada.

Still wondering about interest rates and your mortgage? It can be a lot to take in and it’s best to work with a mortgage professional to help you navigate the ins and outs of finding a mortgage that works for you. As a professional mortgage broker in Barrie, I can help you find the best solution for you and provide you with the information you need to make an informed choice. Connect with me today at 705-230-1306.

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