Don’t you wish you could predict the future? Especially three years ago when you choose a fixed rate five-year term mortgage because you and your partner (and probably your mortgage advisor too) didn’t think that it was possible for the interest rates to get any lower. Well unfortunately for you and for countless other Canadians, hindsight is 20/20 and there was absolutely no way for you to predict what was going to happen with the interest rates three years into the future.
To be quite honest, choosing a five year fixed rate mortgage was more than likely the best option at the time and the most responsible decision to make. But, we do understand just how frustrating it can be to wish that you had made a different decision, particularly when it comes to such important and expensive things like a mortgage.
If you’re currently in this exact situation and wondering whether refinancing your mortgage (more about that here) is a good option, we have a different suggestion for you, the blended mortgage.
What is a Blended Mortgage?
A blended mortgage is a way for borrowers to take advantage of a better rate or to gain access to their equity without having to fork over penalty fees for breaking their mortgage contract early. So why is it called a blended mortgage? Its name comes from the fact that you blend the interest rate on your existing mortgage with the interest rate of a new mortgage (i.e. the interest rate being offered for new mortgages at the time you decide to get a blended mortgage) into a new rate that falls somewhere in between.
A blended mortgage is available to those who wish to gain access to the equity they’ve built up as well as those who want to take advantage of a lower interest rate to save money.
Can my mortgage renewal be denied? Learn more about mortgage renewal here.
How Can I Get a Blended Mortgage?
In order to get a blended mortgage, you’ll need to head to your bank or mortgage lender and ask for it as it‘s highly unlikely that your lender will call you up to let you know that you’re wasting your money paying them too much interest. Ok, that might have been a bit harsh but it’s the truth. If you’re unpleased with your current interest rate, it’s up to you to do something about it.
So, here’s what you can expect when you head to your lender to discuss your blended mortgage options.
The Blend and Extend
The blend and extend option means you’ll blend your existing interest rate with the interest rate your lender currently offers to get a new interest rate somewhere in between. Then your lender will give you a new term by extending it back to its full length. For example, if you’re currently two years into a five year fixed rate term with an interest rate of 5% and your lender now offers a rate of 3% to new borrowers, you’ll receive a new blended interest rate that falls somewhere in between 5% and 3% and have your term extended back to 5 years.
The Blend to Term
The blend to term is similar to the blend and extend, you’ll receive a new blended interest rate but your term won’t be extended. Your new mortgage contract will end when your original term is supposed to end. So, if you’re three years into a five-year mortgage, your new blended rate will only be locked in for the next two years, it will not be extended to a full term.
Why do different lenders offer different mortgage rates? Read here.
Which is a Better Choice?
As interest rates are so hard to predict, it can be very difficult to say for certain which option is a better choice. The blend to term option will allow you to renegotiate your interest rate within a shorter time frame if your term ends and interest rates have remained low you could potentially receive an even lower rate and therefore save even more money. On the other hand, the blend and extend provides more stability. You’ll know exactly what your interest rate is and that you can afford your mortgage for the next five years, which is very important for many people.
Both options have their benefits and it’s up to you to decide what is more important to you and your finances.
Interested in how much it costs to purchase a house in your city? Click here.
Choosing a Blended Mortgage Over Refinancing
Aside from gaining access to your equity or to take advantage of a lower interest rate, the main and probably best reason to choose a blended mortgage over a more traditional refinancing is to avoid the fees associated with breaking a mortgage contract. If you want to break your mortgage contract so you can change the terms of your mortgage, for example, get a new interest rate, or if you want to pay off your mortgage sooner than planned, you will be charged a serious amount of fees, often upwards of $10,000, depending on several factors. A blended mortgage is a great way to avoid these fees. With a blended mortgage, you won’t be getting the best possible rate, but you will get a lower rate and save on fees.
Breaking Your Mortgage Contract
When you break a mortgage contract your lender will charge you fees based on whichever one of the following two calculations is greater, three months interest or the Interest Rate Differential (IRD).
Three months interest
This is rather straight forward; if three months interest is a larger amount than the IRD, you’ll be charged that amount to break your mortgage contract. But, here’s the issue, most borrowers looking to refinance their mortgage almost always trigger the IRD, therefore end up paying quite a lot of money to get a slightly lower interest rate. Typically, the cost of the IRD negates the change in interest rate and therefore breaking their mortgage contract does not make sense.
As a side note, there is a spot on the mortgage interest rate range that specialists refer to as the “sweet spot” and if your rate is in that spot, you won’t trigger the IRD and will instead be charged three months interest to break your mortgage contract. If this is the case for your mortgage, it could, in fact, be financially beneficial to break your contract. Keep mind that this “sweet spot” does change as the interest rates change, therefore it is in your best interest to seek the professional advice of a mortgage specialist who can provide the calculations for you so you can determine where or not it is worth it to you and financial future.
Is the interest on your mortgage tax-deductible in Canada? Find out here.
Interest Rate Differential
As we said before, it’s more likely that the IRD will be greater than three months interest. So what exactly is the IRD then? The IRD is calculated based on the difference between your existing interest rate and the rate your lender could charge if they were to lend the remainder of your mortgage for the length of term you have left.
The IRD exists to make sure that borrowers aren’t constantly breaking and renegotiating their mortgages every time the interest rates go down. After all, lenders make money off of mortgages and that’s what the IRD is there to do, to protect the lender from loss of profit.
When it comes to breaking mortgage contracts and mortgage refinancing, you absolutely need to speak with a mortgage specialist either from your lender or from an outside source. Deciding which option is right for you and your finances will take some time and planning and a few calculations, so if you aren’t confident in your ability to figure it out or you’re just interested in a second opinion, a mortgage specialist can do all that.