Can you handle higher interest rates?

Garry Marr
Financial Post


It may be stressful to think about it but higher mortgage rates are on the horizon.

The questions for homeowners is whether they can handle a hike in interest rates.

Bank of Montreal says consumers should stress test their mortgages a couple of ways, considering higher interest rates and a shorter amortization period.

Canadians new to the home market can be particularly vulnerable to changes in the mortgage market.

“First-time buyers should stress-test their mortgage to ensure they are well financially prepared for home ownership and a potential upswing in interest rates, not only to manage costs but also to pay off their mortgage as soon as possible,” said Frances Hinojosa, a mortgage expert with Bank of Montreal.
 While new governor Stephen Poloz did not raise the overnight lending rate, the Bank of Canada did indicate this past week the long-term goal is still a “gradual normalization” of rates. The overnight lending rate, which prime tracks, has an immediate impact on variable rate mortgage.

Consumers with long-term loans may already be feeling the squeeze. If you are coming up for renewal, it may be time to work in higher rates into your budget.

The fixed-rate five-year closed mortgage, which was once as low as 2.99%, has risen steadily in the past few weeks and is closer to 3.5% at most banks. It’s only a different of 50 basis points but it means a larger payment.

On a $500,000 mortgage with a 25-year amortization, at 3% your monthly payment would be $2,366.23 and you would pay $69,346.66 in interest over a five-year term. Take that same mortgage and raise the rate to 3.5% and the monthly payment jumps to $2,496.36 and the interest over the term reaches $81,180.96.

The real question might be what are you going to do if rates rise to 5%. That $500,000 mortgage with a 25-year amortization would now cost you $2,908.03 and the total interest cost over the five-year term would jump to $117,018.99.

“It remains vital for Canadians, particularly homeowners, to be prepared for for the inevitable rise in interest rates,” said Ms. Hinojosa, adding Canadians should also consider shorter amortization periods.

It’s been just over a year since federal government cracked on the maximum length allowed for amortization for insured mortgages backed by taxpayers. The maximum length is now 25 years, down from a peak of 40 years. A longer amortization period lowers monthly payments and allows consumers to qualify for a larger loan.

That $500,000 mortgage with a 5% rate would become even more burdensome if the amortization length was cut to say 20 years — not something Ottawa is currently considering though.

With a 20 year amortization, the monthly payment would jump to $3,285.63. The good news is the interest over the five-year term would drop to $114,029.48

gmarr@nationalpost.com
Financial Post