Before choosing fixed, consider a Hybrid Mortgage
A reader writes: “My wife is conservative and wants fixed, but I think going variable makes more sense. What mortgage option should we choose?”
When clients can’t decide between choosing a fixed or a variable rate mortgage, I often raise a pretty strong alternative that offers the best of both: “Have you considered splitting the mortgage into one part fixed and one part variable?”
According to industry association Mortgage Professionals Canada, about 4 per cent of mortgages are classed as ‘hybrid’ or ‘combination’ mortgages that may consist of fixed and variable components, or may split the mortgage into various term lengths. The hybrid option I recommend consists of a 50/50 split between fixed and variable.
1. You get the predictability of a fixed rate and the savings of a variable rate. However, some experts believe the spread needs to be at least two percentage points to see significant benefits.
2. While interest rates are notoriously difficult to forecast, a hybrid 50/50 split can leave you with more mortgage principal paid down relative to interest. This can occur when rates increase slightly, rates stay put or rates decline over the next three to five years.
3. If rates increase substantially during that period, there is good news and bad news. The good news is that 50 per cent of your mortgage is locked into a fixed rate. The bad news? The remaining 50 per cent is exposed to rate fluctuations. An all-fixed option is best if you don’t have the financial flexibility or risk tolerance to deal with that exposure.
4. You may lock in the variable rate at any point. However, you will likely pay a three month interest penalty to do so and will have to negotiate the fixed rate.
5. Keep it simple. Make sure that both fixed and variable segments have the same term length – say 5 years – which gives you full flexibility to switch lenders once both terms expire.
Contact us today to discuss hybrid mortgages in more detail, and find out if they are the right fit for you!
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