Rising Mortgage Interest Rates

For years I have been having the conversation with clients around how interest rates won’t stay low forever, and how to be prepared for the eventual rise of mortgage rates.

In the last few years, the housing market has been on fire, and houses have been selling way above their actual realistic value. Buyers have been enjoying super low interest rates, but did they think about what happens in 4-5 years time when their term mortgage renewal is several percentage points higher than when they bought (or refinanced) their house? More specifically, did they have someone advising them on some of the things to consider; not just how much they can comfortably afford with they sign the papers to buy a house and take on a mortgage?

The Canadian government instituted the mortgage “stress test” back in 2018, which essentially put borrowers’ income/debt ratio calculation through a test that would hopefully allow the homeowners to withstand an interest rate rise in the future based on the math (calculated at 5.25% minimum qualifying rate at the time of this writing). This was certainly a step in the right direction to try to avoid over-mortgaging the average Canadian, but as far as real-world accuracy, the problem is that human nature is to get comfortable with the present, and not consider the future. So even though the lender/bank calculated that your income could likely withstand the higher rate in the future, doesn’t mean that your actual cash flow is ready to see the increase. Most people spend most of what their earn, and when they earn more, they spend more.

If your mortgage is coming up for renewal in the next couple of years, you may be in for a surprise. Therefore, it is important that you start planning for that eventuality now.

Start by getting online to do some mortgage calculations. If the renewal rate is 5.25% like the minimum qualifying rate currently, would it be affordable for you to keep paying your mortgage? Would you be forced to extend your amortization at renewal and be further from your “mortgage free” date?

Next, consider taking advantage of your annual pre-payment options for lowering your mortgage balance before your interest rate increases. This not only saves you interest immediately, but it makes the total mortgage balance at renewal time less, thus saving more interest once the rate goes up.

Most lenders will allow you to increase your regular (monthly/bi-weekly) mortgage payment by a specific percent, each and every year. I highly encourage this pre-payment option for many clients, and to review it each year to take advantage of increasing pre-payments. This can knock years off your amortization! Most lenders have several other payment options, but the most common is larger lump sum prepayments each year. Whether you take advantage of further lump sums depends on many factors of your overall financial plan and situation.

Going into the fall is a great time to review your household budget and take a look at your overall financial situation. With increased costs of most things over the last while, from groceries to gas to clothing, having a good handle on your cash flow is more important than ever. 

Work with your advisor to tailor a plan for your specific situation. Setting goals and priorities and having a plan will help you tackle this higher rate environment.