As mortgage rates reach their highest levels in over a decade, borrowers are primarily focused on securing the best rate. However, experts emphasize that the term length should not be overlooked during the mortgage shopping process. With fluctuating interest rates, borrowers are opting for shorter terms, hoping for future rate decreases. This article explores the significance of term length in mortgage decisions and the implications it can have for borrowers.
Understanding Term Length: The “term” of a fixed-rate mortgage refers to the duration of the contract with a predetermined interest rate. Once the term expires, borrowers must renew their mortgage, usually at prevailing rates. This is distinct from the amortization period, which represents the total time taken to repay the loan.
Shift towards shorter terms: Traditionally, a five-year term was the norm for most homebuyers in Canada. However, Samantha Brookes, founder and CEO of Mortgages of Canada, notes a change in this trend. With the Bank of Canada raising interest rates, borrowers are opting for shorter terms, anticipating potential rate decreases in the coming years. By selecting a shorter term, borrowers can benefit from lower interest rates and more affordable payments if rates decline during the term.
Impact of Rising Mortgage Rates: As the Bank of Canada gradually increased its trendsetting interest rate target, mortgage rates have climbed steadily. According to Ratehub.ca, discounted five-year mortgage rates in Canada are currently at their highest level since early 2009. Consequently, homeowners who initially secured a five-year mortgage are now facing higher rates upon renewal.
Shifting Market Trends: Data from the Canada Mortgage and Housing Corp. reveals changing market dynamics. In January 2023, fixed-rate mortgages with terms of five years or more accounted for only 13% of new and renewed mortgages, compared to 46% before the pandemic in January 2020. On the other hand, mortgages with terms between one and three years constituted 36% of new and renewed mortgages in January 2023.
Considerations and Downsides: While opting for a shorter term can have its advantages, there are potential downsides to consider. Ratehub.ca highlights that the best rates for three-year mortgages are higher than those for five-year mortgages. Additionally, if interest rates do not decline or increase further, borrowers may lose the opportunity to benefit from lower rates upon renewal.
Individual Circumstances and Planning: Jimmy Aramouni, an RBC mobile mortgage specialist, advises homebuyers and homeowners to consider their future plans for the property when deciding on the term length. Factors such as staying in the property, upsizing, selling, or buying should be taken into account. Aramouni also emphasizes the importance of assessing one’s monthly mortgage payment’s affordability since each term has its own rate structure.
Consulting with Mortgage Specialists: To make informed decisions, borrowers are encouraged to consult with mortgage specialists. By discussing their specific circumstances, financial goals, and market insights, borrowers can receive tailored advice that suits their needs. This personalized approach helps borrowers navigate the complexities of term length and other mortgage considerations effectively.
While securing the best mortgage rate is crucial, borrowers should not overlook the significance of term length. In a market environment of rising rates, the decision to opt for a shorter term has become more prevalent. However, borrowers must carefully weigh the advantages and potential downsides based on their individual circumstances and long-term plans. Seeking guidance from mortgage specialists can provide valuable insights and assist borrowers in making well-informed mortgage decisions.