Mortgage Basics #Home Buying

Should You Break Your Mortgage?


Homeowners across Canada choose to break their mortgages early and refinance into a new mortgage for a variety of reasons, including taking advantage of lower interest rates, paying down debt, renovating, sending kids to school or even making a down payment on an investment property. But this decision can’t be made lightly as it may have significant financial consequences without weighing the pros and cons, since you’ll be charged a penalty for ending your mortgage term prematurely. nesto will help you examine all of your options before moving forward to ensure breaking your mortgage is in your best financial interest. 


Key Takeaways

  • Before deciding to break your mortgage early, be sure to review your current financial needs and determine what you hope to gain
  • Breaking your current mortgage and refinancing into a new one makes the most sense when the overall savings you can achieve will outweigh the cost of the penalty you’ll have to pay to end your mortgage term early
  • Sometimes, your best choice is to stay in your current mortgage longer to reduce or eliminate the penalty you’ll have to pay for breaking your mortgage early 

Determining your mortgage goals

Before deciding to break your mortgage early, be sure to review your current financial needs and determine what you hope to gain. Start by evaluating your objectives. Perhaps you’re hoping to take advantage of lower interest rates to save money, or you’re looking to tap into your home equity to consolidate high-interest debt into a lower rate, or finance renovations or another large purchase. Whatever the reason, make sure your goals are clearly defined and that waiting out your current mortgage isn’t an option before deciding to end your term and pay a penalty.

Tip: Leading up to your mortgage renewal date is the best time to tap into your home equity as you won’t face a penalty for breaking your mortgage early

When to break your mortgage

It’s often a wise choice to break your current mortgage and refinance into a new one when the overall savings you can achieve will outweigh the cost of the penalty you’ll have to pay to end your mortgage term early. Keep in mind there are additional charges involved with refinancing into a new mortgage as well, including an appraisal and title search, legal fees and other administrative costs.

Are you allowed to break your mortgage?

Yes. You’re allowed to break your mortgage, but it always comes at a cost. The earlier on you are in your mortgage term (and the further you are from your renewal date), the more expensive it will be to break your mortgage. 

Want to save thousands of
dollars on your renewal?

Renew with nesto and you can.

What does it cost to break a mortgage?

Banks and other lenders make money from your mortgage loan, primarily through interest payments. And, if you pay out your mortgage early, you’re reducing the amount of money your lender makes. In order to offset some of these losses, lenders impose penalties. 

An early payout penalty is typically either calculated as a percentage of your current outstanding mortgage amount – known as the interest rate differential (IRD) – or the equivalent of a certain number of monthly interest payments. In both scenarios, the fees can quickly add up.

Payout penalty calculations vary from lender to lender, so it’s vital to have nesto review your mortgage contract to determine how yours will be calculated. 

Tip: Ask about early payout penalties and how they’re calculated by the lender before even signing your mortgage contract. This knowledge could save you a lot of stress and money in the future

It’s important to note that banks typically use their posted rate to calculate the penalty amount. Posted rates are generally higher than the actual interest rate borrowers can expect to receive. Other lenders, such as monolines and credit unions, base their calculations on published rates, which are generally more in line with the actual rate borrowers receive. This rate difference is often why you hear reports of bank IRD penalties costing borrowers thousands of dollars.

Breaking a fixed mortgage has higher penalties

Most fixed-rate mortgages have a prepayment penalty that’s based on either three months’ interest or the interest rate differential (IRD). The IRD is calculated based on the amount that’s being prepaid, and the difference between your original interest rate and the lender’s current interest rate. 

Most variable-rate mortgage penalties are three months’ interest and don’t typically carry IRD penalties.

Should you break for a fixed or variable mortgage?

Deciding whether to break your mortgage – regardless of whether you’re in a fixed or variable option – is a personal choice that should be based on whether you’ll benefit financially long-term.

As mentioned above, a fixed-rate mortgage can cost significantly more to pay off early than a variable-rate mortgage, particularly if the lender uses an IRD calculation to determine the fixed-rate penalty.

Risks to breaking your mortgage

The largest risk to breaking your mortgage early is the financial burden you could face in the form of an early payout penalty. In some cases, especially when you must pay an IRD penalty, you could face a penalty that will cost you thousands of dollars. Breaking your current mortgage and refinancing into a new one makes the most sense when the overall savings you can achieve will outweigh the cost of the penalty you’ll have to pay to end your mortgage term early.

Sometimes it makes the most sense to stay in your current mortgage longer in order to reduce the amount of the penalty you’ll have to pay in order to end your mortgage term prematurely.


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