There is lots of talk about our historic low interest rates and how long they can last. You may have heard the tales of the ‘80s where Canadian mortgage rates leaped. The average residential mortgage lending rate for a 5-year fixed mortgage in April 1977 was 10.25%. When those people renewed 5 years later it was 19.41% (full chart here). The drivers behind that jump are certainly not expected again, but it is an extreme example of how interest rates can move. While opinions vary on how much rates will increase or when they will start to climb, everyone agrees that gradual rate increases are inevitable.
When interest rates do climb there is a risk of payment shock. Basically, this is when people are unprepared for the impact the rates have on their revolving credit and mortgage payments. I have a simple remedy…pay your mortgage like it’s 2018. In other words, get used to a higher payment now so it isn’t a shock later. You also get the benefit of paying down your mortgage so any future rate climbs have less impact on you.
Protect Yourself From Payment Shock
- Decide where you think mortgage rates will be in 2018.
- Calculate what your mortgage payment will be at that interest rate. (click HERE for a mortgage calculator)
- Revise your mortgage payments to that amount. Can’t afford to pay that much? Increase it by half that amount.
- You will now be paying down your mortgage faster so when you renew your mortgage balance is lower. This will reduce the impact of a higher rate when you do renew and it eliminates payment shock because you are already used to paying your mortgage at a higher rate.
Here’s an example:
Do nothing. You just purchased a home and have a mortgage loan of $300,000 at 2.99% amortized at 25 years. Your current payments are $1,400. When you renew in 5 years and your balance is at $256,000, mortgage rates are at 6% and your payment will be $1,800.*
Pay Like It’s 2018. You decide to prepare ahead and increase your payment now. If you pay $1,800 for the next 5 years, when you renew your balance will be $230,000. At 6% your payments are $1,600. You shave 7 years off your mortgage and save $36,000 in interest costs.*