I recently guest post about refinancing home mortgages that is a topic I’ve recently been interested in. As with many financial issues, there isn’t an easy answer whether you should do this or not, and it depends heavily on your personal situation and how much risk you’re willing to expose yourself to with respect to future inflation and interest rate changes.
If you *DO* decide to break your mortgage, there’s an easy way you can save yourself a chunk of the penalty, assuming you have the right mortgage features.
Refinancing your home mortgage
First, to give a general overview, breaking a mortgage typically entails paying the lender three months interest as a penalty (in Canada at least). More recently, they have begun using an alternative method for calculating the penalty called the interest rate differential (IRD). This is simply how much they WOULD have made off of you if you’d kept paying on the mortgage (and these days is higher than 3 months interest).
Whether or not to make the change is a fairly simple calculation (compare the penalty to the interest savings). The big additional benefits that attract me to the idea is that it’s a great time to get a fixed rate (in case interest rates take off). I’d actually be tempted to pay a premium and get a 10 year mortgage and not have to worry about interest rates for the next decade.
Some might try to make this a moral issue, claiming you’ve made a commitment to the lender and should honour it. This is garbage. Part of your commitment (check your mortgage documents) is that you can break the mortgage if you’re willing to pay the penalty. If they didn’t want you doing so, they shouldn’t have included it as part of the agreement.
I’m currently house hunting, so getting a new mortgage would be a dangerous thing. I will definitely investigate any impact refinancing might have on getting a new mortgage before I did anything.
Getting back how to save money when breaking a mortgage. When I called PC Financial (my mortgage holder), and asked about refinancing they told me it would cost $1,190.19 for me to break it (my mortgage is a little more than $89 K). I am allowed an annual 20% pre-payment, so I asked the rep what the penalty would be if I maxed out the prepayment first, which promptly dropped it to $882.70. He certainly didn’t volunteer this information, but he had it right there, so definitely ask (if you can pre-pay) how much it would lower the penalty fees.
For me personally, I’d just get the 20% out of my line-of-credit (then pay this off with the new mortgage). Even if you got the money from a high interest source (like a credit card cash advance or something) I think it would still be a good way to lower the penalty (in my case it’d save me 25%), as long as you quickly paid it back.