Rates Are Rising: What to Do With Your Variable Mortgage?
You chose a variable rate to benefit from a lower initial rate, but the Bank of Canada has announced one or more policy rate increases. The question arises: should you convert to a fixed rate, increase your payments, or simply stay the course? The answer is not universal and depends on your financial situation, risk tolerance, and the terms of your mortgage contract.
Decision Tree: Evaluating Your Options
Before making a hasty decision, systematically ask yourself the following questions. Your AMF-certified mortgage broker can guide you through this analysis.
- Question 1: Is your payment still comfortable within your budget?: Calculate the actual impact of the increase on your monthly payment. If a 0.25% increase represents approximately $13 per $100,000 of balance, a $400,000 mortgage would see its payment rise by about $52 per month. If this increase is easily absorbed, you could maintain the variable rate.
- Question 2: How much time is left on your term?: If your renewal is less than 12 to 18 months away, conversion may not be justified. You can negotiate a new rate (fixed or variable) at renewal without penalty. If your term has just begun, the protection of a fixed rate has more value over a longer period.
- Question 3: What is the spread between your variable rate and the current fixed rate?: If your current variable rate is 5.50% (after the increase) and the 5-year fixed rate is at 5.25%, conversion could be attractive since you are already paying more on the variable. If the gap is reversed (variable still lower than fixed), converting would immediately cost you more.
- Question 4: What is your risk tolerance?: If the uncertainty of future payments causes you financial stress or anxiety, the peace of mind from a fixed rate may be worth a slightly higher cost. Budgeting certainty has real value, even if it does not show up in a purely financial calculation.
The Three Main Strategies
Strategy 1: Stay the Course (Status Quo)
Historically, borrowers who maintain a variable rate over the long term pay less interest than those who consider opting for a fixed rate. Studies conducted by the Bank of Canada and Canadian academic researchers have shown that variable rates were less costly than fixed rates in approximately 80% to 90% of historical 5-year periods. This strategy suits borrowers with a flexible budget, a solid emergency fund, and good risk tolerance. It is less recommended for those at the maximum of their debt service ratios under OSFI criteria (Guideline B-20).
Strategy 2: Convert to a Fixed Rate
Conversion is advantageous when the fixed rate is close to or lower than your current variable rate, you have a long remaining term (3 years or more), you expect further significant Bank of Canada rate increases, or you need budgeting stability. Most mortgage contracts allow this conversion to the prevailing fixed rate without penalty, for the remainder of your current term. Verify that the conversion applies the posted rate for the remaining duration of your term, not the rate for a new 5-year term.
Strategy 3: Hybrid Approach (Increase Payments)
If you believe the rate increases are temporary, you can voluntarily increase your payments to maintain the same pace of principal repayment. This approach keeps you on a variable rate (and therefore positioned to benefit from a future rate decrease) while avoiding the extension of your amortization. Most Canadian lenders allow payment increases of 10% to 20% of the original payment per year without penalty, in accordance with the prepayment privileges outlined in your mortgage agreement.
The decision between maintaining, converting, or adjusting is never final. Markets are cyclical, and the next Bank of Canada announcement could change the equation. The key is to make an informed decision based on your personal numbers rather than media headlines. Your AMF-certified mortgage broker is your best ally in this analysis.