Choosing Your Mortgage Term at Renewal: Strategic Guide

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Choosing Your Term at Renewal: A Strategic Decision

Mortgage renewal is a pivotal moment that offers Quebec borrowers the opportunity to reassess their financing strategy. The choice of term should never be automatic. Each renewal represents an opportunity to optimize borrowing costs based on market evolution, personal financial situation, and medium-term plans. An informed choice can save thousands of dollars over the life of the loan.

Understanding the Yield Curve

The yield curve is a graph that illustrates the relationship between interest rates and mortgage term lengths. Under normal conditions, longer terms command higher rates because the lender assumes greater risk by locking in a rate for an extended period. This upward-sloping curve is called normal. When short-term rates exceed long-term rates, the curve is said to be inverted, often signaling that the market anticipates an economic slowdown and future rate cuts by the Bank of Canada. Understanding the current shape of the curve helps déterminé whether a short or long term is most advantageous.

Yield curve: A graphical representation of the relationship between interest rates and term lengths for the same type of investment or loan. In the mortgage context, it compares rates offered for 1, 2, 3, 5, 7, and 10-year terms. Its shape (normal, flat, or inverted) reflects market expectations about the future direction of benchmark rates.

Term Options at Renewal

1 to 2-year term: generally offers the lowest rate under a normal curve. Ideal if you plan to sell the property, if rates are currently high and declines are expected, or if you want maximum flexibility.
3-year term: a compromise between flexibility and stability. Suitable for borrowers who want to limit exposure to fluctuations without committing for 5 years.
5-year term: the Canadian standard, offering the greatest payment stability. Suitable for borrowers who prioritize budget predictability and do not anticipate major changes in the next 5 years.
7 to 10-year term: maximum stability but at a higher rate. Suited for very conservative borrowers or during periods of historically low rates. Break penalties can be very high.
Variable rate (open or closed term): follows the Bank of Canada's prime rate. Offers savings potential if rates decline but carries the risk of payment increases.

Decision Factors for Choosing Your Term

Analyze your holding horizon: If you plan to sell your property within the next 2 to 3 years, a short term or variable rate will minimize prepayment penalties in the event of a sale.
Assess your risk tolerance: If a rate increase of 1% to 2% would strain your budget, a 5-year fixed term provides protection. If your budget is flexible, a shorter term or variable rate could save you money.
Review the current yield curve: If the curve is inverted (short-term rates higher than long-term rates), a 5-year term may be more economical than a 2-year term. Your mortgage broker can provide this analysis.
Consider the economic context: Bank of Canada policy rate announcements, inflation outlook, and economic forecasts influence all terms. An AMF-certified mortgage broker follows these indicators and can guide you accordingly.

Choosing the term at renewal should never be taken lightly. An AMF-certified mortgage broker can model different scenarios by comparing the total cost of each term over multiple horizons, accounting for potential penalties, the probability of rate changes, and your personal situation. This service is free for the borrower and can save thousands of dollars over the life of the loan.

Frequently Asked Questions

What is the most popular mortgage term in Canada?

The 5-year fixed-rate term is historically the most popular in Canada, chosen by the majority of borrowers. It offers a balance between payment stability and a generally reasonable rate. However, studies show that borrowers who chose shorter terms or variable rates have historically saved money over long periods.

How does the yield curve influence term selection?

The yield curve reflects market expectations about future rates. When it is normal (upward-sloping), short-term rates are lower than long-term rates, suggesting the market anticipates increases. When inverted, short-term rates are higher, often signaling an imminent recession and future declines. A mortgage broker can interpret the current curve to guide you.

Is it better to consider selecting a short or long term at renewal?

It depends on several factors: your risk tolerance, market conditions, your property holding horizon, and your financial situation. A short term (1-3 years) often offers a lower rate but less predictability. A long term (5-10 years) offers stability but at a higher cost. Your AMF-certified mortgage broker can help you make the best choice.

Should I consider selecting a fixed or variable rate at renewal?

A fixed rate offers certainty with constant payments throughout the term. A variable rate follows the Bank of Canada's prime rate and can fluctuate. Historically, variable rates have been less expensive over long periods, but they carry the risk of significant increases. Your choice should reflect your ability to absorb payment variations.

What happens if I need to sell my property before the term ends?

If you sell before the term maturity, you will need to pay a prepayment penalty. For a fixed rate, this penalty can be substantial (IRD). For a variable rate, it is generally limited to three months' interest. If you plan to sell within the next few years, a shorter term or variable rate may be more prudent to minimize potential penalties.