March 2009

Time to clean up your mortgage?

Spring is here! And it just might be a good time to give your mortgage a spring cleaning – it could make a noticeable difference to your finances.

There’s one good thing about a recession:  it forces us to rediscover the virtues of a solid family budget. For some reason, the first budget items to be scrutinized tend to be the little luxuries:  outings, treats… But we shouldn’t forget the item that, for most families, constitutes the number one expense:  the mortgage.

Here are seven tips for managing your mortgage better.

1. Set the right goal

Not all households have been put in the same position by the current economic climate. For some, the situation is touch and go. Others aren’t on such shaky ground, but still want to be prepared for any eventuality. Unfortunately, giving yourself some short-term breathing room by reducing your mortgage payments also means signing up for a longer repayment period, which entails higher costs in the end. It’s important to be clear about your ability to pay in the short term so you don’t sacrifice your long-term security:  do you really need to reduce your monthly payments?

2. Reconsider your amortization

If you do need to lower your monthly payments, you can ask your financial institution to lengthen your mortgage amortization period. For instance, if you’ve borrowed $150,000 and your amortization period is 15 years, you can reduce your monthly payments by $300 simply by increasing the amortization to 25 years. Be careful, though! As soon as your financial situation allows, reverse this change:  shorten your amortization period to reduce the long-term cost of your loan.

Amortization:  a balancing act
$150,000 mortgage at 5.75%

AmortizationMonthly paymentInterest cost
30 years$ 869 $ 162,811
25 years$ 938$ 131.259
15 years$ 1,240$ 73,232

3. Reconsider your payment frequency

More-frequent payments reduce the long-term cost of the mortgage. If you choose accelerated weekly payments instead of paying once a month, you will save $10,200 on a $150,000 mortgage amortized over 15 years. The immediate cash outflow is larger, but it translates into an annual saving of about $700 a year over the lifetime of the loan.

4. Negotiate your mortgage

The financial crisis caused a credit freeze, but things are gradually easing up as the banks rebuild their cash reserves. If your credit is good, you could be in a position to shop around for your new mortgage. On a $150,000 mortgage amortized over 15 years, a difference of 1% can add up to several hundred dollars a year.

Similarly, if you signed your mortgage when rates were higher than they are now, you could re-open it – even if it means paying a penalty – to lock in today’s rates to your advantage. Some institutions also offer a combined rate that splits the difference between the old and the new.

5. A big decision:  variable or fixed rate?

Variable mortgage rates are generally lower than fixed rates – sometimes by more than 1%! On the other hand, a fixed rate is the best way of knowing exactly what you’ll be paying during a set period. If you have some financial leeway, a variable rate is definitely the way to go. If not, and even if rates aren’t expected to rise in the short term, the fixed-rate option will give you peace of mind.

6. Build flexibility into your mortgage

The recession reminds us that you can never have too much flexibility. When you’re negotiating a mortgage, make sure that it includes clauses that will help you to deal with the unexpected:  the option of skipping a payment, changing your repayment schedule or amortization period, or having prepayment privileges. As well, you might want to consider disability or critical illness insurance.

7. Look at other options

If your mortgage simply becomes too heavy, consider your options:  rent out a room to a student, ask for some rent from that young adult who’s still living at home… or move to a smaller place.

Ultimately, you should never forget that your mortgage is a part of your overall financial plan. Before making any mortgage-related decisions, talk to your financial advisor about how it will affect the other aspects of your financial situation.