Mortgage Prepayment
Options and Penalties

Do you know your rights when it comes to repaying your mortgage?

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The difference between open and closed mortgages

Prepayment restrictions are the fundamental difference between open and closed mortgages.

What is an open mortgage?

  • An open mortgage permits you to repay virtually any portion of the loan amount at any time, without penalty.
  • There’s no free lunch, however. Open mortgages tend to have higher interest rates thanks to their pre-payment flexibility.

What is a closed mortgage?

  • Closed mortgages have strict prepayment limits, intended to deter borrowers from paying ahead of schedule.
  • When you pay off a closed mortgage before it has matured, the lender loses out on unearned interest, so the penalties help them to reduce this risk.

Closed mortgages do have some flexibility

Despite the restrictions on closed mortgages, they do allow some prepayment privileges. Here’s a quick overview:

  1. Lump sum payments: For folks with an influx of cash who want to pay their mortgage faster, one way to do that is to make a lump sum payment. The annual limit for these payments is most commonly capped at 15 to 20 percent of the remaining principal balance. The entire amount goes towards your principal, lowering your ongoing interest costs almost immediately.
  2. Optional payment increases: For those who want to pay their mortgage faster, one way to do so is to increase your regular payment amount. Certain lenders allow borrowers to double-up their monthly payment amount, while most others allow payment increase amounts ranging from 10 to 20 percent.

Learn more about open vs. closed mortgages.

When to take advantage of mortgage prepayment options

If you’ve managed to save some money, got a raise, won the lottery or experienced any other positive change in your financial position, you might be tempted to accelerate your mortgage payments.

Before doing so, ask yourself, “Is my money better spent elsewhere?”

To answer this question, people compare their mortgage rate to the after-tax return they can earn by deploying their cash elsewhere.

For example, if your mortgage rate is 3.00% and you have a credit card balance being charged 20% interest, paying down the credit card first is clearly a better use of your money. Or perhaps you believe that you can earn more than three percent by investing your money.

The higher the interest rate on your mortgage, the more it makes sense to exercise your prepayment privileges and pay it down sooner.

Are you considering pre-paying your mortgage? Use the Rates.ca Mortgage Penalty Calculator to find out how much it will cost.

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