One basis point on a mortgage amounts to 1/100th of 1%
In an interesting article by the Editor of CanadianMortgageTrends.com, Mr. Robert McLister wrote that one 1 basis point (bps) equals one one-hundredth of one percent or .01%. So on a $300,000 mortgage 1 bps represents “a scant $1.49 a month” in the mortgage payment. What’s even more insightful is Mr. McLister’s following statement, “From the way some folks select a mortgage, however, it might as well be $149 a month.” The article was published May 18, 2015.
Lowest rates have spawned restrictive or “no frills” mortgages
Still today, mortgage hunters tend to shop for a mortgage strictly on the lowest rate offered regardless of terms. This generates offers with as little as 1-2 bps compared to the next lowest competitor. As a side effect, these low rates come with a variety of restrictions generally ignored at time of purchase.
“No Frills” mortgages reduce prepayments and more
These restrictions can have any number of limitations: reduce the prepayment privilege, make a payout before maturity highly expensive or more difficult than normal to discharge, increase the penalty if increasing the size of the loan whether moving or renovating.
Specific examples of limitations
Gidia Molinaro, mortgage agent for Centum Omni Mortgage Corp. notes some of the following difficulties with “No Frills” mortgages:
- A rate sale with a low term often limits the prepayment option to only 5% per year compared to the typical 15-20%. If you plan on prepaying from an employment bonus or income tax rebate, this restricts the amount you can prepay to reduce your mortgage.
- You might have prepayment privileges but can only payout the mortgage in full upon sale of the property.
- If you have a mortgage which doesn't allow payouts unless the home is sold, you might not be able to refinance for more money with the same lender. Also other financial institutions will not give a 2nd mortgage if they don’t have the first. This may force you to obtain a 2nd private mortgage at a much higher rate plus added fees. The only 2nd mortgages lenders tend to offer are lines of credits.
- If you want to refinance during the term, it has to be with the same lender. Your current rate on the existing mortgage and the increase will result in a blended rate. Typically the result is a higher rate. There is no penalty to blend rates. So you normally have two choices:
- Blend the rate and pay no penalty, or
- Pay the penalty and shop for a better rate with other lenders.
-If you choose a promotional mortgage, your are teased with an extremely low rate for the first year or two; after the rate jumps up to say the posted rate. This usually ends up costing more than a fixed five year mortgage. Caution: review both the rate and terms before committing.