The Basics about Mortgage Renewal vs Refinance
Difference between renewing and refinancing mortgage
Are you wondering what the difference is between refinance and renewal? When you take out a mortgage for a home in Canada, you’re usually not going to pay it off over the life of the term. Traditionally, lenders amortize the loan for periods between 15 and 30 years. However, the longest loan term you can get from a Canadian bank is 10 years. This means that most homeowners who pursue traditional funding have to go through at least one renewal, if not more. It is also possible to refinance your loan, and some borrowers pursue that instead as the end of their existing loan term approaches. However, refinance and renewal are two different things, and knowing the difference is important for making the right financial decisions.
Renewal versus Refinance
If you’re refinancing, you’re basically swapping your existing mortgage in for a new one. You can do this at any time rather than waiting for your existing mortgage to expire. This is particularly attractive for people who are in one or more of these circumstances:
1.) You took out your first loan when rates were more than a percentage point higher, but they are rock bottom now.
If you are paying 5.5 percent on your note, and you still have two or three years to go, refinancing for the maximum term length could be a good idea, particularly if you don’t anticipate paying it off early. Locking in a low rate now for the next ten years may require you to take a closed mortgage (which means that you face a penalty for early payment). However, if you end up making more money over the next ten years, you could put it away and start drawing interest on it, giving you even more to put down at your next renewal. Most analysts believe that interest rates are about to go up, and locking in now could be a smart choice.
2.) You have a lot of outstanding credit card debts and other high interest obligations. If you’re paying the high interest of credit card debt, and you have four or five figures’ worth still yet to pay, refinancing your loan might even make sense if the current rates are relatively close to where they were when you started the mortgage. You’ll be saving a lot of money on the interest that you’re no longer paying on the credit card debt.
3.) You want to renovate some or all of your home, or you have a major improvement project to take on. You can use money from refinancing to make improvements on your home. If you’re considering putting in a new kitchen or redoing the master bathroom, or even adding a second floor, then you can pull cash out of your refinancing and put it toward those expenses.
Renewal is what happens at the end of your mortgage term.
If you took out a five-year note to start your mortgage, amortized over 25 years, after those first five years, you will have to renew the loan if you cannot pay it off. If you haven’t refinanced and are approaching the end of your term, here are some considerations as you approach the renewal process.
1.) Are you in a position where you want more flexible payment options? A closed mortgage often comes with lower interest rates than its open counterpart. However, you can’t pay early without incurring interest-based penalties. If you take out an open mortgage, the rates are likely to be higher, but you can counteract that (and often more) by paying ahead of time. If you think your income is going to go up, consider the benefits of being able to pay your note off early without penalty.
2.) Would fluctuating interest rates ruin your budget? You can get an adjustable rate mortgage (ARM) that starts out at a much lower interest rate than a fixed rate loan. You are taking on the risk of having your rates jump up (to a pre-set maximum) if market rates increase. However, if you take out an open ARM, you can really get ahead with double and triple payments with rock bottom interest rates.
Refinance Vs Home Equity Loan
What is the difference between home equity and refinancing? You have two options here: refinancing the first mortgage that you have or taking out a home equity loan. Both of these can provide funds for whatever you need (debt consolidation, that vacation home, college tuition, and so on), and the better choice for you will depend on where you are with home equity, the interest rates at the time you need the loan, the terms of the loan, and your own situation and lifestyle.
In order to choice between a Refinance and a Home Equity Loan, there are several things to consider. First, you need to have paid into your mortgage regularly for a number of years, or have made a hefty down payment at the point of purchase. The first few years of your loan payments primarily satisfy the interest of the loan, so unless you have an open mortgage and are making additional payments against principal, you’re not going to build up a whole lot of equity to borrow against. However, if you do have a considerable amount of equity in your home and plan to put your house on the market within a few years, a home equity loan can be a smart way to add some liquidity without the higher interest rates of credit card debt or personal loans. It is also a way to refinance the debt and roll in some additional debt from credit cards if necessary.
Home Equity Loan Comparison
If you are looking to get a better interest rate on your existing loan, then a refinance is the better choice. If you want to draw cash out of the situation, the home equity loan is the better choice. If you need money to pay for home repairs, taxes, consolidating debt, making a down payment on another property, or educational costs, both of them can work well to give you a relatively low cost way to create liquidity out of your real property.
If you choose to refinance, basically you’re taking your current mortgage and replacing it with one that is larger. Let’s say that you have a home valued at $500,000, and you have $400,000 in equity, leaving $100,000 in principal. You have $40,000 in credit card debt that you want to roll into a refinance. Now you have $140,000 in principal, assuming you pay the closing costs up front instead of rolling them into the loan as well. So your payments will go up each month, or the loan terms will extend, meaning that you have longer to go before you’ve paid it off.
Taking out a home equity loan is slightly different. Instead of refinancing your entire loan, you’re adding a second one. If rates have gone up significantly since you took out your first loan, this is the better choice quite frequently. Within the equity loan, you have two choices: the home equity loan or the HELOC (home equity line of credit). The loan gives you all of your cash at closing, while the HELOC does not distribute any cash at closing but instead lets you access it at a later time. The choice between these two depends on the purpose and timing of the liquidity needs.
Home Equity Vs Refinance
If either a refinance or home equity loan will work for your situation, it’s worth noting that the cost of taking out a HELOC or home equity loan is significantly less than that for closing a refinancing loan. With the home equity options, some lenders will not charge any closing fees at all as a promotion to build business. Refinances are technically new mortgages, which means that all of the closing costs connected to a mortgage are in play, including title fees, points, processing the underwriting, appraisals, recording and legal fees.
Refinancing vs Equity Loans
Banks tend to treat traditional refinances and home equity loans differently, in terms of closing costs and interest rates. A simple refinancing usually involves significantly higher closing costs than a home equity loan. However, the interest rate on a home equity loan, even if it is the only lien on a property, tends to be higher. The reason for this is that, in the minds of the lenders, home equity loans represent a slightly higher degree of risk. You might have a stellar credit rating, but some of the people who are taking out home equity loans have reached serious financial circumstances and are using the home equity loans to help bail themselves out. Some of these people end up defaulting on their loans, adding a degree of risk to the entire pool of borrowers. Because you’re entering that pool when you borrow, you end up paying a slightly higher interest rate.
Let’s take a look at a hypothetical situation involving a traditional refinance and a refinance using a home equity loan. In both cases, there is a 15-year amortization on the loan, and you are taking out a ten-year open term to begin. You’ve chosen a ten-year term to give you as much time as possible to pay off the note before renewal, but you’ve chosen an open note so that you can pay it off sooner if you end up having the financial resources to do so. If you take out a closed mortgage, you can end up paying a significant amount in fees, especially if interest rates go up in the meantime.
Let’s assume a loan of $150,000 in both cases. With the traditional refinancing, typical closing costs would run around $2,400. Let’s assume an interest rate of 3.5 percent, which is in line with current available loans. Your monthly principal and interest payment would be $1,072. With the home equity loan, your closing costs could be as low as $300, but let’s say $600 just to be safe. Your interest rate will be higher, probably around 4 percent, a rate which is currently out there on the market. Your monthly principal and interest would be $1,110. This is a slightly higher payment. Which is the better choice?
The answer is that it depends on how long you intend to take to pay the loan off. With an equity loan, you’re ahead of the game up front because closing costs are so low. After two years, the traditional refinance customer would have paid a total cost (closing cost and payments) of $28,136, while the home equity loan borrower would only have paid $27,229. Over the next two years, though, the loans draw level. After four years, the traditional refinancing borrower would have paid $53,871, while the home equity loan borrower would have paid an almost identical $53,857. Over the next few years, the traditional refinancing option turns out to have been cheaper, all other things remaining the same.
Home equity loan vs refinance cash out
To be sure, both the refinance and the home equity loan can provide considerable benefits to a homeowner. If you need expensive renovations to your home, this kind of money can make it easy for you to get the work done in a short amount of time before matters get worse — and even more expensive. To make your mind up, it’s important to know the various interest rates (at the original time of the loan as opposed to the present day), and how far away you are from being free and clear.
When Should You Refinance to Save Money?
If you’re looking to refinance to get a lower interest rate before your term ends, you must look at several factors. Interest rates for mortgages in Canada have been at or near historically low levels for several years now. The aftermath of the real estate collapse in 2008 and 2009 caused banks to tighten up on their credit requirements but, at the same time, lower interest rates as far as possible in order to encourage investment by those who qualify. The lower interest rates were the result of intervention by the Canadian government (as well as others), seeking to forestall recession on a massive scale. Even today, interest rates remain remarkably low, making refinancing an attractive option for people who have not yet taken advantage of the minuscule rates.
Compare Refinance Mortgage Rates
Because of the Canadian law that limits mortgage terms to 10 years, many of the people who qualified for “A” financing already have rates that are considerably low, and the difference between their existing mortgage rates and those available on the present market is not enough to make the closing costs of a refinance worth it, in many cases. The fees that go along with refinancing mean that the decrease in rate would need to be several percentage points, in many cases, to be worthwhile.
Payout 2nd mortgage taken from a private lender
Many borrowers, though, are still paying for loans that charge a significantly higher rate of interest. People who signed “Alt-A” (also known as “B”) notes or who took out C notes, or private mortgages, took on interest rates that were well above the Canadian Benchmark Rate in order to start down the road toward home ownership. Rather than continue paying these loans and their associated interest expenses, the better option for many is to refinance their loans and take advantage of the lower rates.
Amansad Financial has connections with many “A,” and “Alt-A”/”B” lenders who charge reasonable fees and currently offer attractive interest rates to people who would not have qualified for their products when they took out their initial mortgages but now have the credit score and income history to support a more favorable mortgage. If you are currently paying off a “B” mortgage or a “C” private mortgage, and there is more than a year remaining on your current note, considering refinancing is definitely a smart move.
The Ins and Outs of Mortgage Refinancing and Renewal in Canada
In Canada, the 25 or 30-year mortgage has been the path that most people have taken to home ownership. However, unlike in other countries, you can’t take out one loan that will last for that entire period of time. Instead, the longest loan term you can sign in Canada is ten years. However, the rates on a ten-year loan are significantly higher than those of, say, a two- or three-year term. The reason for this is that a ten-year loan locks up money for a longer period of time, and the higher rate protects the bank against an increase in rates down the road that would leave them losing money in comparison to what you would be paying them.
Once you take out a mortgage that will probably be the biggest check that you write every month. When you come to the end of a loan term, the easiest thing to do is to simply let the loan renew. Most banks don’t make you qualify again as long as you’ve been making your payments on time, and it’s simpler to just keep writing checks to the same bank (or letting them draft your account automatically). However, there are some things to think about before you simply let the loan roll into another term of several years.
Shop the new loan early.
A lot of lender will provide you an early renewal option 90 or even 120 days before the expiration date of the term. You’ll want to read the fine print on that before you sign your first loan – and you’ll want to review it when you’re about six months away from the expiration. That’s also the time when you’ll want to start shopping around for your next mortgage loan option. Contact your bank and ask what they are offering as an interest rate for your renewal. Lenders generally won’t guarantee a discounted rate longer than six months out, so if you can find a rate that is lower than what your bank wants to give you at renewal, you can save quite a bit of money by shifting lenders at that time.
Do the research.
You can reach out to Amansad Financial (or one of our competitors) to find out what other lenders in your market are offering. You can also visit a website such as canadamortgage.com. That site lists the up-to-date available mortgage rates from the major banks in Canada. Even with rates at historically low levels, there are some lenders that are hovering right at the bottom of the interest rate market. You have to be a little proactive here, too. Just because your lender is offering the same rate once again doesn’t mean that another lender isn’t offering something better.
Remember that the interest rate isn’t the only important number.
If you look at a lender’s table of available rates, varying by term, then you can see that there are a lot of options on the table. If you don’t want to have to renew in a couple years, then you’ll want to look at a longer amortization period. At your own bank, that might cost you some in a higher interest rate, but if you tell the bank you’re thinking of shopping the loan, you might be able to get you want. If the bank balks, you have some leverage to take to a competitor as you already have approval. Choosing a fixed or variable rate is also an important choice, as is the flexibility of the schedule for repaying the loan. In the months before renewal, you have some leverage because the bank wants to keep taking your money every month – and if you walk away they will get no income from you.
Switch lenders if it makes sense.
The reason why Canada doesn’t allow loan terms longer than 10 years is to protect the banks against holding paper with interest rates that are too far below what the market could bring them. When you go through renewal, banks have the option of making you go through the qualification process again, even if you’re sticking with the same bank. This rarely occurs if you’ve paid as agreed and have no delinquent accounts within the branch. Since the process gives the banks a significant advantage, you should turn this part of the process to work for you as well. If you can do better by taking your loan to a different bank, why wouldn’t you? You don’t owe your original lender a debt of gratitude; you’ve been paying them handsomely each month for the privilege of using their money to finance most of the purchase of your home. Don’t let that guilt you into thinking that you have to renew with them. You should take out the deal that works best for you and for your family.
Use a broker instead of negotiating the deal yourself.
A lot of people simply auto-renew with their original lenders because they don’t have the time (or don’t think they have the time) to negotiate a new loan. It does take some time to research the other rates out there, talk to representatives at the various banks and submit the paperwork necessary if you’re going to move your loan to another bank or other lender.
That’s where companies like Amansad Financial can come in so handy. When you don’t have the time to find a loan, that’s what we do – and we’ve helped many clients end up refinancing at renewal – moving their loan to another bank or another lender instead of renewing automatically. The Bank of Canada reports that people who use a broker end up saving money significantly in comparison to those who don’t. A study found that 27 percent of people renew their mortgages automatically – and if you have a chance to save money each month on the largest check you write, why wouldn’t you want someone to negotiate that for you? After all, even on a $150,000 mortgage, you can save $10,000 over the next 25 years if you have just a half point lower interest rate on your mortgage.
If you’re interested in having a broker find the right mortgage for you, call Amansad Financial today. Amansad Financial has helped many people in all types of refinancing situations. Call one of our Mortgage Refinance Comparison specialists today, and we will give you a personalized recommendation based on your needs.