What is a mortgage penalty and how is it calculated?
On a variable it is normally three months' interest. On a fixed it is the greater of three months' interest and an interest rate differential, and the way your lender calculates that differential can change the bill by thousands.
Three months' interest is simple arithmetic on your balance and is rarely the painful outcome.
The interest rate differential is the lender's estimate of the interest they lose by lending your money out again at today's rate for your remaining term. The formula is not standardized. Some lenders compare your contract rate to a current rate for the remaining term. Others compare posted rates, which are higher than anything anyone actually pays, and the arithmetic produces a much larger number.
This is the single most expensive clause most borrowers never read. Ask for the formula in writing before you sign, and ask for a worked example on your own numbers at year two. A rate that is a tenth of a point better is not worth an extra ten thousand dollars if you might move.
What it depends on
- whether the mortgage is fixed or variable
- whether the lender's differential uses posted or discounted rates
- how much of the term is left when you break
Answer it with your own numbers
You will need: current balance, current rate, months left in term, new rate.
Compare breaking early against waitingAlso asked as
- What does it cost to break my mortgage?
- What is an IRD penalty?
Next questions
Should I take a fixed or a variable rate?
Pick on your tolerance for the payment changing, not on a forecast. Fixed buys certainty and an expensive break penalty; variable is cheaper to break and moves with the Bank of Canada.
Canada-wide
When does it make sense to refinance?
When the interest you save over the remaining term exceeds the penalty plus legal and appraisal costs, or when you need to consolidate higher-rate debt. Do the arithmetic; do not refinance on a feeling that rates look better.
Canada-wide