Buying a home is an exciting time. However, navigating the mortgage process can be overwhelming.
One of the most important decisions you'll need to make is choosing a fixed or variable mortgage rate, the percentage of interest you'll pay for your mortgage. But how do lenders decide on the rate they'll give you?
Bonds Silently Influence All Rates Bonds are like an “I owe you" that governments and companies issue. When you buy a bond, you essentially lend the issuer money in exchange for interest payments. The interest rate on a bond is known as the bond yield. When inflation begins to reduce slightly, this is referred to as disinflation. This means that prices for goods and services still increase but at a much slower pace. Tighter monetary policy measures like a higher policy rate can lead to disinflation. This is where the Canadian economy is today as the Bank of Canada implements cuts to the policy rate, aiming for a soft landing.
Mortgage Term The mortgage term refers to the duration of your mortgage agreement. Fixed mortgage terms typically include 6 months, 1 year to 5 years, 7 years and 10 years. Variable mortgage terms are typically limited to 6 months, 1 year, 3 years, and 5 years. Lenders consider the term primarily, among other factors, when determining mortgage rates.
Variable rates are determined by the lender's prime rate, based on the Bank of Canada policy rate plus a spread. Fixed rates are determined by bond yields of corresponding maturities, such as 5-year fixed rates following 5-year bond yields, along with a spread. While historically, variable mortgages have had lower interest rates than fixed rates, this has shifted in recent years.
Qualifying Ratios Lenders assess your ability to afford a mortgage by analyzing your Gross Debt Service and Total Debt Service ratios. GDS compares your housing costs to your gross income, while TDS considers all your debts. For CMHC-insured mortgages, the standard ratios are 39% for GDS and 44% for TDS.
When a mortgage is converted from a variable to a fixed rate, it is essentially a type of early renewal. Lenders typically offer non-discounted rates when transitioning from a variable or adjustable rate to a fixed mortgage rate. Proof of Income Proof of consistent income is essential to secure the most favourable mortgage rates. You can verify this by submitting paystubs, employment letters, or T4s if employed by someone else.
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