Canadian real estate prices aren’t just getting more expensive, the cost of carrying a mortgage is as well. It’s often said that “the power of compound interest is the most powerful force in the universe.” Mostly, from people in finance, looking to explain how interest accumulates over time. That’s great for people lending the money, but not so much for those that are borrowing it. As interest rates rise, so do mortgage rates. Despite the seemingly small increase in mortgage rates, the hikes will add up to quite a bit. To explain this, we ran some numbers to help breakdown the final cost of these loans.
About The Calculations
In order to run these numbers, we had to make some assumptions about the rate, and the term length. For the rate, we used the Bank of Canada’s average 5 year fixed mortgage rate. Yes, some people can get a cheaper mortgage rate, and for them – awesome job. You’re also much more likely to secure a lower rate from a mortgage broker. However, the majority of people use one of the big banks, and pay a premium that works out to tens of thousands more for the privilege. This makes the average rate a little higher than you should actually pay. We’re going to use the average, but hopefully you’re smart enough to shop around for a lower rate.
For term length, we used a 30 year amortization and assumed the mortgage rate would be the same for the whole length. In the US, this would be totally normal because you can get a fixed rate for 30 years. In Canada, the length of a fixed rate mortgage is typically 5 years. At the end of that 5 years, you get to play rate roulette – and will end up paying whatever the rate is at renewal. There’s a chance that rates might be lower at renewal, but we’re just above historic lows. Odds are they will be higher in the future, so the cost of interest in these calculations are likely underestimated. Got it? Onward!
Where We Are On The Rate Roller Coaster
Currently rates are doing a minor climb, but we’re just off of the all-time lows. Today’s average 5 year fixed rate is 4.99%, which is a 7.54% increase from June 2017. June 2017 was an all-time low, and the likelihood of it rolling back to that number is probably gone. However, this time 5 years ago, the rate was 5.24%. These numbers don’t sound all that different, but you’ll see what a big impact this will make on your bottom line at the end of your mortgage.
Source: Bank of Canada.
The Cost of Carrying A Million Dollar Mortgage
Some people say the cost of home doesn’t matter to people, only the cost of carrying that home. For a $1,000,000 mortgage, at today’s 4.99%, you’re looking at a ~$5,362 payment per month, just for interest and principal. That’s about $200 more per month, or 4.11% more than the all-time low in June 2017. If rates rise to where they were five years ago, you would be paying an extra $153 per month, which is a 2.85% increase from today. That sounds like just a few extra bucks, but it adds up to serious amounts of cash.
Calculated using the average 5 year fixed rate, assuming a 30 year amortization, and the same interest throughout amortization. Only includes mortgage and pricipal payments, so you’ll have to add taxes, etc. yourself. Source: Bank of Canada, Better Dwelling.
Total cost of mortgage principal and interest
Borrowing a million dollars for your mortgage? At today’s 4.99% mortgage rate, you’ll have paid a total of $1,930,359 on the interest and principal in 30 years. That’s right, it will cost you $930,359 in interest on that million. If rates were at the all-time low hit just a few months ago, you would have paid $854,135 in interest. That tiny bump in mortgage rate costs $76,224. If the mortgage rate jumps to where it was five years ago (5.24%), you’ll have to pay $985,704 in interest, $55,345 more than today. Yes, if rates climb up to where they were 5 years ago, you’ll have to pay back almost a million on the million you borrowed.
Estimated interest paid after 30 years, when borrowing $1,000,000. Source: Better Dwelling.
Remember, this is likely a lowball estimate of interest costs. Once again, we’re assuming a fixed rate for the whole term, at some of the lowest rates in history. As rates climb, so will the interest paid on your loan. If you’re in the market for a home, ask the to lender to run the total cost at your stress tested rate for a better idea of what you’ll pay.
Like this post? Like us on Facebook for the next one in your feed.