Mortgage lenders are not all created equal

I deal with many different mortgage lenders, big and small banks, credit unions, and non-bank lenders alike, and they all come with both pros and cons.  Depending on your situation, a bank lender may be the perfect fit, or the last lender you should be considering. There is no “one size fits all”.

So how do you choose?

There are many different factors to consider.   Rate is an obvious one, as well as pre-payment privileges, the lender’s comfort level in dealing with people in your financial circumstances (in business for yourself? recently divorced? past credit issues?), and the type of property you’re purchasing, are some of the key points to take into account.

Mortgage features can differ significantly

There are many positives with our Big Banks. They’re profitable and strong and have nice branch networks and really fancy advertising. And when we’re travelling south of the border, we Canadians have bragging rights in talking about our Big Banks’ great balance sheets. On behalf of my clients, I sometimes even arrange mortgages with them myself. But here’s the truth: the Big Banks can be a little clueless when it comes to doing right by their customers.  Check out this article outlining a mortgage customer’s experience with one of the Big 5.  Yikes.

Back in the olden days (aka the start of my financial career), it was the scrappy little trust companies like Canada Trust that led the Big Banks to finally offer consumers mortgage features like weekly and bi-weekly payments, pre-payments without penalty, and more creative bells and whistles that enabled consumers to tailor mortgages to their own needs. And their customers appreciated it. Looks like we now need our non-bank lenders to push the Big Banks to rethink their policies on another front – early payout penalties.

You’re not planning to move; why would you care about penalties for early payout?

It’s impossible to plan on many of the things that will happen in our lives, like a job change, illness, divorce, or even wanting to break your mortgage term to take advantage of a better mortgage rate. There are many reasons why you may need to one day break your mortgage and renegotiate or pay it out.

If you have a fixed rate mortgage, you can expect to pay a penalty, the greater of either a) three months’ interest, or b) the interest-rate differential (IRD). With the IRD, your mortgage lender will want you to compensate them for what they will lose by releasing you from your mortgage, and finding a new borrower for the money at current rates.

Not all lenders calculate the IRD the same way, and the differences can amount to thousands. To calculate IRD, lenders take the difference between your contract rate and their current rate for the term that most closely matches the time you have left on your mortgage. So if you have two years left of a 5 year mortgage, they compare your rate to their current two year rate. That calculation can lead to a reasonable payout penalty. However, a significantly higher penalty will result if the lender takes the difference between your contract rate and the so-called “posted rate” in effect at the time you arranged your mortgage originally. They call this the “discount” you got on your original contract.

I’ll walk you through an example:

Let’s say you obtained a $500,000 mortgage 3 years ago at a 5 year fixed rate of 3.59%. Based on a 25 year amortization, with bi-weekly payments, you now owe $452,487. You’ve suddenly been offered a wonderful opportunity to move across the country and take that dream job. Awesome! But how much will it cost you to get out of your mortgage?

Well, that depends on which mortgage lender you chose. Let’s compare the scenarios between First National, Canada’s biggest non-bank lender with about $75 Billion in mortgage assets, and CIBC, one of Canada’s Big 5.

• If your mortgage is with First National, you use their mortgage payout calculator and determine that your mortgage penalty works out to $8142.84. Ugh… But it’s hard to argue – you know that you’re breaking your contract early, and they are lending out the money at a much lower rate than what you’d committed to, so it seems fair.

• What if your mortgage is with CIBC? Well, they add in that little twist, the “discount”. Their current five year mortgage is posted as 4.99%. In reality, if you were getting a mortgage with them today, you’d only accept 4.99% as your rate if you’d been living under a rock. You’d negotiate until they gave you a more competitive rate. Today a pretty good 5 year rate is in the 3.09% range. So your discount? A whopping 1.9% (4.99% – 3.09%). All the Big 5 are in this ballpark. Assuming that you’d been given a similar “discount” when you set up your mortgage 3 years ago, that makes your CIBC payout penalty $22,171.86. Whoa! You might be able to improve on this if you complain aggressively, but there aren’t any guarantees.

What’s your takeaway?

It pays to get familiar with your options. Competition is a great thing! Here’s a shortlist of the lenders I use, which includes both banks and non-banks. If you are looking for a new mortgage, all things being equal (rate, features, and so on) be sure to take the early payout penalty into consideration. If your circumstances change and you need to break your mortgage, having a fair penalty calculation could save you thousands.

And the next time you’re negotiating a mortgage, make sure you’re on the lookout for the fine print relating to your early payout penalty. Questions, thoughts? I’m looking forward to your feedback. Get in touch to chat!

Image credit: [c] Inkong Boutchalern for vecteezy