Perspective on BoC Announcement Scheduled for 26/01/2022
Who the BoC is and what they are announcing
As you may or may not know, the BoC (Bank of Canada) comes out 2 times a quarter (8 times a year) and provides their outlook on the Canadian economy and updates any changes to their policy, most importantly, the Target Overnight Rate.
The Target Overnight Rate, which currently sits at 0.25%, is essentially the interest rate that commercial banks borrow and lend funds off of on a one-day basis to each other. When the Bank of Canada increases the Target Overnight Rate, that increased cost is passed onto consumers through increases to the Prime Lending Rate banks keep. This is also a major tool in managing inflation within our country.
Generally speaking, a banks Prime Lending Rate increases and decreases in lock step with the Bank of Canada Target Overnight Rate. So, if the BoC increases the Target Overnight Rate by 0.25% to 0.50%, there is strong likelihood you will see an increase to your banks Prime Lending Rate by 0.15% to 0.25%. That being said, the decision is completely up to the banks on how much they decide to increase.
What does this mean for borrowers?
As of right now, most variable mortgages are any where from Prime -0.90% to Prime -1.10% or more. With most banks having a Prime Lending Rate of 2.45% (TD Bank is 2.60%), your net variable interest rate is around 1.45% (Prime rate of 2.45% - 1%).
For a $400,000 mortgage at 1.45% net variable, your monthly payments are $1,589.55 on a 25-yer amortization schedule.
Should you lock in?
With speculation the BoC will increase the Target Overnight Rate by 0.25% to 0.50%, the Prime Lending Rate could increase anywhere from 0.15%-0.50% or more. However, is this justification to lock in your current interest rate?
If we take the same scenario above, and for a $400,000 mortgage change the interest rate from a net variable of 1.45% to 2.00%, an increase of 0.55% to the banks Prime Lending Rate, your monthly payment would increase from $1,589.55 to $1,693.80 - $104.25.
Some lenders have ARM (Adjustable Rate Mortgages) and some have VRM (Variable Rate Mortgage). The ARM mortgages do not increase in payment, what they do increase by is length of time to pay off. If you want your payments adjusted to stay on top of your repayment schedule, you will need to notify the bank you wish to have your payments increased. VRM will do this automatically.
What are you locking into?
If you did not want to be on the variable interest rate rollercoaster anymore and decided to lock in, you would need to contact your current lender and request that change. What they will offer you is an equivalent fixed rate term for the remaining time you have left on your existing term. For example, if you were 2-years into a 5-year term, they would offer you a 3-year fixed rate.
Most lenders right now have 1-year to 4-year fixed interest rates around 2.79%-2.89%.That increase on a $400,000 mortgage from a net rate of 1.45% is $260.60 - $280.93 a month.
Nothing has happened yet, but leading up to this announcement, my suggestion would be to maintain all current variable interest rates. If you lock in, you are guaranteeing no more increases to your rate, but you are also guaranteeing no more potential decreases and a loss of savings until the next announcement. Just because this year there is anticipation of rate hikes, doesn't mean over the course of your remaining term that they may not come back down.
You will also be giving up your ability to have your mortgage penalty only be equivalent to 3-months worth of interest, regardless of your mortgage size and when you pay it out- a massive benefit for people who do not know what the next 1-3 years is going to bring them.
We will have an update for everyone within 24 hours of the announcement this Wednesday, please do not hesitate to reach out to us with any questions before then.
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