With mortgage rates at all time lows we have many clients calling us and asking if it is worth it to refinance their current mortgage. We are happy to do an analysis for anyone to let them know whether or not it is worth it to refinance. In some cases it is and in others it doesn’t make sense due to the penalty to break the current mortgage. Here are a few things you need to know about refinancing your home.
How do banks calculate your penalty
If you have a fixed rate mortgage then the penalty is the greater of the interest rate differential or 3 months interest. 3 months of interest is usually a pretty small penalty (less than 3 months of payments). The interest rate differential is a whole other calculation and is determined as follows.
Let’s assume you have a 5 year fixed rate right now of 3.80% that you got 3 years ago. This would be a discounted rate off of the posted rate. Your posted rate may have been around 5.3% when you got the mortgage. Now let’s assume you want to pay out the mortgage with 2 years left in your term. To calculate the penalty the bank will need to determine what the posted rate is on a 2 year mortgage. Let’s say for example this 2 year posted rate is 2.80%. If you have a $300,000 mortgage here is how the penalty is calculated:
Posted rate on your mortgage: 5.3%
Less Posted rate for time left: 2.8%
Multiplied by your balance: $300,000
Multiplied by years remaining: 2
Total penalty: $15,000
In this example we would then have to calculate what the savings would be from obtaining a lower rate to see if the savings was greater than the $15,000 penalty.
You are limited to 80% financing on a refinance
The most you can borrow against your home is 80% of its value when you already own a home. You are allowed to purchase a home with as little as 5% down (95% borrowed) however, the next day after you own it you can only borrow 80% of its value. Therefore, it is key when buying a home to assess your financial needs in the near future. You may have 20% down now but if that stretched you too thin and you may need money in the near future then it may not be wise to put so much down. You may opt for a smaller down payment to ensure you have money set aside for future needs.
Stress Test rules for a refinance
When you want to apply for a mortgage refinance you will have to qualify under the new stress test rules with most lenders. This means that you have to qualify at the benchmark rate which is currently 4.79%. Having said that we do have some lenders that do not require you to use the stress test rules but the options are limited.
Many lenders have now tiered their rates for different products. They usually offer their best mortgage rates for high ratio purchases where there is less than 20% down on a purchase. Other than that there are usually higher rates charged for a purchase with 20% down or more. In addition, rates are usually higher for a mortgage refinance, rental property or a stated income mortgage for a self-employed borrower. It is best to contact us with your exact situation in order to get an accurate quote on rates for your situation.
It’s at this time that people can take a breather and look at their situation and see what can help them financially down the road. In regards to a mortgage refinance, one opportunity that exists is that you can use the equity in your home to either pay off higher interest consumer debt or do renovations to their home. If you have credit cards that are charging you double digits in interest rates or consumer loans that cost 5% – 6% in interest a mortgage at approximately 2.2% or less may make sense at this time. For refinancing your home the maximum equity you can take out is 80%. With the increase in market prices this will give people the opportunity to do this that previously couldn’t as they had borrowed more than 80% of the value of their property. We can help you with this in increasing your first mortgage with no penalties or obtaining a second mortgage for you where we leave your first mortgage intact.
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If you need more information regarding mortgages or if you need any advice on your personal situation please contact our office at 604-556-3893 or email at [email protected]
For more information on our mortgage products and your preferred Abbotsford Mortgage Broker please visit our website at www.ymscanada.ca.