September 24, 2017

Ideas to Deal with Rising Mortgage Rates

On September 6th, the Bank of Canada implemented its second rate hike of the summer. We must assume it’s only the beginning as the Canadian economy has been doing quite well. Essentially, rising interest rates is the main option for the Bank of Canada to keep inflation under control in booming economic conditions.

As a result, Canadians can expect borrowing costs to get higher. In that context, the principal preoccupation of many house owners is having to pay more for their mortgage.  

So, what can we, simple mortals, can do about it?
Stay calm as you probably have time to adjust

Stay calm! There’s nothing critical yet. First, significant hikes won’t happen overnight and will be gradual. Second, effect may not be that immediate so you still have time to prepare for adjustments. Online mortgage calculators can allow you to anticipate eventual increase of your payments.

For very popular fixed-rate mortgages, payments won’t be affected till renewal. Many variable-rate mortgages involve fixed payments also only affected at renewal. You’ll end up paying more interest and your balance will accordingly be a little higher.

If you are in a variable-rate contract with variable payments and can’t handle to pay more, you may have more of a problem. You couldn’t afford a house or at least, that big of a house in the first place. With interest rates around historical lows for more than a decade, hikes were probable and expectable at some point. You should have planned for some margin of safety.

Always budget with more reasonable rate

One easy way to automatically factor in an adequate margin of safety is to budget using a higher rate. For instance, in the actual context, 6% would be reasonable as average historical mortgage rates hover around 5%. This way, you’ll know you can handle subsequent augmented payments.

You could even make payments that correspond to that more reasonable rate from the get-go. With time, that process will reduce principal and increase your margin of safety. Just check with your lending institution to make sure these extra payments are possible under your contract.

Make a lump-sum payment on your mortgage

Another option present in most mortgage contracts allows you to make some kind of additional lump-sum payment each year. Again, check with you bank if it’s possible in your case.

Using extra cash on hand to do so will decrease principal right away, indirectly diminishing interest portion on subsequent payments. At renewal, reduced principal will translate into smaller payments that will absorb, at least in part, any increase attributable to rising rates.

In fact, that’s what we will personally probably be doing. Our mortgage is renewable in less than 2 years. Two additional payments could reduce our already small balance virtually to nil. We may be tempted to retain what could be considered good debt as we make better returns on the stock market. On the other hand, safely getting rid of any debt will never constitute a bad financial decision.

Long-term, we could almost be certain to beat our mortgage rate but over only a short-term period of 2-3 years, perhaps it becomes risky speculation. Paying off our mortgage is simply the best decision that remains within our already successful long-haul investing principles.

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