COVID-19 has ravaged the Canadian and global economies over the past two years, causing widespread unemployment and interest rates to fall to near historic lows. For the first time in Canadian history, banks offered a staggering five-year fixed rate of 1.99 percent in June 2020 – the lowest rate ever.
This prompted many people to consider refinancing their mortgages.
Refinancing your mortgage essentially means exchanging your old mortgage for a new one, possibly with a new balance, where your bank or lender pays off your old mortgage and replaces it with the new one. Most borrowers choose to refinance in order to lower their interest rate and shorten their payment term, or to convert some of the equity in their home into cash.
With low loan rates, the prospect of buying a new vacation home, finishing unfinished projects, or finally conducting home improvements or repairs may have been appealing, but there are many factors to consider with refinancing.
So when is the right time to refinance your mortgage?
Generally speaking, refinancing is a good decision if it will save you money, help you build equity, and allow you to pay off your mortgage faster.
According to Forbes.com: “Refinancing can lower your monthly mortgage payment by reducing your interest rate or increasing your loan term. Refinancing also can lower your long-run interest costs through a lower mortgage rate, shorter loan term or both. It also can help you get rid of mortgage insurance.”
When it comes to refinancing, there are three primary considerations:
- The monthly savings after taxes (new payment vs. old payment after any tax-favoured treatment).
- The amount of time one expects to spend at home. It might not be smart to refinance if you plan to move in the next two years, which gives you little time to recoup the cost.
- The price of obtaining a new mortgage. These include closing costs, such as the origination fee, appraisal fee, title insurance fee, and credit report fee, which typically range from 2% to 6% of the amount borrowed
After reviewing the aforementioned factors, you can compute your return to determine whether refinancing is feasible in your particular situation.
In a case where you are locked into a long-term mortgage, you may be tempted to break it to take advantage of lower rates, but after paying the mortgage differential penalty, you may not be any better off - at best, you may just break even. When interest rates are low, mortgage penalty fees are significantly higher.
The question of when to refinance is not just about interest rates or your timeline. According to bankrate.com, “it’s about your credit is good enough to qualify for the right refinance loan. The best rates and terms go to those with the best credit, so check your credit report to have a solid understanding of your risk profile. If you’re carrying a high credit card balance or you’ve missed a payment recently, you might look like a riskier borrower.”
Whether you apply for a new mortgage to refinance or, remember that knowledge is power, and it is critical to do your research before making a decision. Even if you don't switch lenders, knowing what others are offering can help you negotiate a lower rate with your current one.
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