Home Buying and Mortgages
7 mortgage terms you need to know
By ATB Financial 30 August 2023 6 min read
It’s easy to get caught up in the rise and fall of interest rates, home inventory and possession dates. First, take a deep breath. Next, read this: we’ve put together seven important mortgage terms and tips to help you understand your options and choose what’s best for you.
1. Term
Your mortgage term is the length of time your mortgage details are guaranteed. Shorter terms generally offer lower rates, but you'll have to renew earlier (when rates might be higher).The most common term is five years, but, depending on your mortgage, you can go as short as six months or as long as 10 years.
So what's right for you?
First, you’ll want to think about how long you'll stay in your home and what rates are expected to do in the next few years. Your term contract specifies your mortgage provider, interest rate and payment options. At the end of your term, you can choose to either renew your mortgage under the same conditions but with a new interest rate based on the current market, renegotiate your mortgage with the same provider, or move your mortgage to a different provider.
2. Open and closed
With a closed mortgage, it's difficult (and expensive) to pay off your mortgage early or switch lenders before your term is up—but you will receive a better rate for your commitment. With an open mortgage, your rate is usually higher but you can make extra payments, pay off your mortgage entirely, or switch lenders at any time.
So what's right for you?
If you're confident you can commit to your mortgage contract for the full term, a closed mortgage is the way to go. Not so sure? An open mortgage gives you more flexibility.
3. Fixed and variable
Variable and fixed-rate mortgages are the two primary rate types of mortgages in Canada. Each has its advantages.
Fixed-rate mortgages guarantee a fixed interest rate for the length of your term and therefore a payment amount which stays consistent over the term of the mortgage.
With a variable rate mortgage, the interest rate changes according to your bank's mortgage prime rate. Monthly payments remain steady over the course of your term, however the amount that goes toward interest on the loan will fluctuate with the Bank of Canada’s prime lending rate. If you have a variable-rate mortgage and you would prefer to lock your rate into a fixed one, some variable-rate mortgages allow you to lock in to a fixed rate at no penalty.
So what's right for you?
A fixed rate is a good choice for those who plan on staying in their home for at least the length of the term. Further, if you have a fixed budget to spend on your payments, your principal and interest payment will not change throughout the term, ensuring you are aware of what you will need to pay each month.
On the other hand, if you can handle some potential fluctuation in your payments, a variable rate can save you a lot of money—in the short and possibly long term.
4. Amortization
Amortization is how long it will take you to pay back your full mortgage (the original borrowed amount plus interest). In Canada, the maximum amortization period is 25 years.
You can decrease your amortization by increasing your payment frequency, or by paying lump sums towards your principal.
If you have a longer amortization period, you will have lower mortgage payments as they are spread across a longer period of time—the trade-off is that you’ll end up paying more in interest in the long run.
For example, using a $500,000 mortgage at 5% (per annum):
| Amortization (assuming same interest rate over entire period) | Monthly payment | Total interest costs (over the life of your mortgage) | Interest saved |
|---|---|---|---|
| 15 years | $3,940.62 | $209,311.43 | $163,096.05 |
| 20 years | $3,285.63 | $288,550.04 | $83,857.44 |
| 25 years | $2,908.02 | $372,407.48 | N/A |
So what's right for you?
Reducing the amortization period of your mortgage allows you to decrease the amount of interest you pay and it will let you pay down the principal faster—which is always a good thing. Figure out your budget and go with the shortest amortization period that you can afford.
5. Payment schedule
You can make your mortgage payments monthly, semi-monthly (twice a month), bi-weekly (every two weeks), or weekly. Semi-monthly and bi-weekly may seem like the same thing, but in reality, bi-weekly payments can save you thousands in interest and help you pay off your mortgage years earlier. For example, with semi-monthly payments, you'll make 24 payments a year (two per month); with bi-weekly payments, you make 26 payments a year (half of the year's 52 weeks). That's two extra payments every year—which can add up to thousands in savings over the course of your mortgage.
Using a $500,000 mortgage at 5% (per annum):
| Payment frequency | Payment | Actual amortization (years) | Total interest costs (over the life of the mortgage) | Interest saved |
|---|---|---|---|---|
| Monthly | $2,908.02 | 25 | $372,407.48 | N/A |
| Accelerated bi-weekly | $1,454.01 | 22 | $311,971.62 | $60,435.86 |
So what's right for you?
It's probably most convenient to align your mortgage payments with your paycheques—but if you get paid semi-monthly (on the 15th and 30th of every month, for example) and your budget can accommodate the extra two payments of the bi-weekly option, you should go for it. The savings can be huge.
You can forecast what your payments might look like using our Mortgage Payment Calculator.
6. Portability, blending and extending, skip payments, and pre-payments
These are a few additional options that may be available to you, depending on your mortgage.
Portability: If you decide to move before the end of your term, you may have the option to transfer your existing rate, loan balance, and maturity date to your new home without paying any penalties.
Blending and extending: Another option if you're planning on buying a new home or renewing your mortgage early, blending and extending allows you to blend your current rate with a new rate, while adding your new mortgage term at the end of your current term.
Skip payments: Some lenders allow you to skip one or two months of mortgage payments every year, a good option if your income fluctuates.
Pre-payments: You may have the option of increasing your payments by a certain per cent each year or prepaying up to a certain per cent of your loan each year, making a big dent in your principal.
Again, using a $500,000 mortgage at 5% (per annum):
| Pre-payment choices | Mortgage repaid in months | Total interest cost (over the life of the mortgage) | Interest saved vs. standard 25-year amortization |
|---|---|---|---|
| Standard 25-year amortization | 300 | $372,407.78 | N/A |
| Increase mortgage payments once by 20% in month 12 and increased payment maintained | 228 | $266,876.61 | $105,531.17 |
| In the 13 month, you decide to apply a lump sum payment of 7% | 264 | $301,492.15 | $ 70,915.63 |
Mortgage options can be overwhelming, but if you figure out the level of risk, commitment, and budget you're comfortable with, it should help you make decisions with confidence.
7. Creditor protection
A mortgage is a significant financial investment so we want to make sure you are covered in case of an unexpected illness, disability or death.
Most lenders offer Mortgage Insurance which provides peace of mind should you encounter a major life event. You can also purchase term insurance where the proceeds can pay off any remaining mortgage balance. Both options provide benefits, and it is recommended that all mortgage holders have some level of protection.
So what's right for you?
Regardless of your age and stage in life, you should regularly assess the potential financial impact of your death, a disability or illness.
Do you have questions about buying a home?