Tips to minimize penalty charges
If you decide to break your mortgage to benefit from lower interest
rates, you might be able to minimize the amount of penalty charges you
have to pay. Keep in mind, however, that your lending institution may
not offer this option. Look at your mortgage agreement to see what
options are available to you or contact your branch.
Many mortgage agreements offer a pre-payment option without penalty,
which may allow you to pay up to 20 per cent, and sometimes even more,
of your mortgage off in any given year. If it is possible to do so, you
may want to pay a portion of your mortgage (if your financial
institution allows this) before you renegotiate it. Your penalty would
then be calculated on the outstanding balance after you have made your
pre-payment.
Some institutions also allow you to extend the length of your
mortgage prior to your mortgage renewal date, to take advantage of the
current low rates by creating a new blended rate and longer-term
mortgage. This is called the "blend-and-extend" early renewal option.
Not all financial institutions offer this option, and different
institutions have different ways of calculating this option. The
following example gives you an idea of one common method of calculating
the blend-and-extend option.
You have 12 months left in your 60-month (five-year) mortgage, at an
interest rate of 8 per cent. Let's assume that the current five-year
mortgage rate is 6 per cent. If you decided to extend your mortgage
before its term ended and take on another five-year mortgage, your new
mortgage rate, using the blend-and-extend option, would be as follows:
A + B
C
A is (8% x 12 remaining months in current term) = 0.96
B is (6% x 48 months of new term) = 2.88
C is 60 months (new term)
If you choose the blend-and-extend option, your mortgage
rate will be 6.4 per cent for the next 60 months, and you will not have
to pay a penalty to benefit from the lower rate. (Note: Your financial institution may add an administrative fee.)
It may be beneficial for you to choose the blend-and-extend option
if you believe that interest rates will increase substantially before
the end of the term of your mortgage and want to lock in now.
The preceding method of calculating the blended rate has been
simplified for illustration purposes. The formulas used by financial
institutions are generally based on net present value; therefore, your
actual blended rate will be different (it is usually higher). Contact
your financial institution for the exact blended rate.
Source: Financial Consumer Agency of Canada|
