Homeowners and potential buyers closely watch the Bank of Canada’s interest rates. The interest rate rose for the first time in four years in March 2022, and another wasn’t far behind in October 2022.
The interest rate after the October and December increases was at 4.25%, and homeowners can expect a significant impact. Here are a few ways homeowners and prospective buyers will feel the pinch.
Why is the Interest Rate on Borrowing Going Up?
Several factors are contributing to the increase in the interest rate. At the start of the pandemic, the Bank of Canada offered some relief by dropping the interest rate to 0.25%. Borrowers then didn’t have to pay as much interest on their loans and mortgages.
However, in June 2022, we saw inflation of 8.1% – the highest it’s gone in thirty-nine years. So experts think there’s a link between the reduced interest in 2020 and 2021 and rising inflation.
Add both those factors to several mortgage providers’ stocks going down, and it’s a perfect recipe for costly mortgages.
Homeowners and prospective buyers will see the impact firsthand in their mortgages.
What Does the Interest Rate Increase Mean for New Buyers?
Before being approved for a mortgage to start shopping for your home, you must pass a stress test if your down payment is less than 20%. The purpose of the stress test is to make borrowers prove they can pay their mortgage expenses.
Borrowers need to prove that they can pay either the rate offered by their mortgage lender or the Bank of Canada’s five-year fixed rate – whichever is higher. High-interest rates make the stress test more challenging to pass.
Happy property owners shaking hands with real estate broker after a deal. Young couple handshaking real estate agent after signing contract.
What Does the Interest Rate Increase Mean for Mortgage Renewal?
The interest rates will affect your financial plans if you’re due for a mortgage renewal. Depending on your mortgage type – variable or fixed – the interest rate increase will affect you differently.
Interest Increase for Variable Mortgages
If your current mortgage is at a variable rate, you’ll notice the increases right away. While it’s possible that your mortgage payment won’t increase, you’ll be paying more towards interest rather than principal.
Interest Increase for Fixed Mortgages
With a fixed mortgage rate, you’re locked in at the interest rate you agreed upon at the beginning of your mortgage term. The rate won’t change until you’re up for renewal – that’s when you’ll see the increase.
How to Overcome the Interest Rate Increase?
Even though prime rates are on the rise, there are options for securing financing. Regardless of who your lender is, you can talk to other lenders to find the lowest rate possible.
When you change lenders, however, you’ll have to go through another stress test, and if you break your current term early to switch lenders, they can charge a fee.
When it’s time to renew your mortgage, and you’re optimistic about interest rates going down, a shorter mortgage term of three years can let you reassess sooner. A fixed-rate mortgage would lock you into this high-interest rate. A variable mortgage renewal will be a favourable decision if the rates go down, but if they continue to climb, you’ll be stuck paying less against your principal.
Bottom Line
There’s no right or wrong mortgage term to choose – no one can see the future. In the next few years, the interest rates look promising and will go down again. If you have a mortgage broker you trust, they can guide you through the possible outcomes of either option or explain how it can affect you.
Need a resource to point you in the right direction? Sarasota Realty knows the market and the professionals you need to transform you into a homeowner. Contact us to explore listings and get started on the homebuying journey.
