Choosing Between a Short and Long Term Mortgage
7 May, 2012 / by Bryan Jaskolka
When it’s time to purchase a home, one of the things buyers concern themselves with the most is the interest rate they’ll be paying. The concern is legitimate, as it will largely determine how much you ultimately pay for your Canada and Ottawa mortgage. But what’s of equal concern is the term you choose.
The term is the length of a certain portion of the mortgage, not to be confused with the amortization period. The amortization period is the total length of loan or, how long it will take to pay the entire loan off. That amortization period is broken down into different terms and at the end of the term, the homeowner can then renew their mortgage and take the opportunity to make changes to their mortgage. But when homeowners break their mortgage by changing their mortgage or changing lenders before their term is over, severe penalties can be dealt and it can cost the homeowner greatly.
Before buyers can choose a term for their mortgage, it’s important to know the two different types of terms that are available. Long-term rates is the first type and these will be longer terms (anywhere from 4 to 10 typically) and they will come with fixed rates. Short-term rates on the other hand (anywhere from 1 to 3 years) are generally variable rates. Even though rates shouldn’t be compared when comparing terms, owners still need to take in the same considerations that they do when comparing interest rates. Namely those considerations are what their short and long-term financial futures look like, and what they want to do with their money during that time.
In short, if you’re short on cash and your financial picture would be under stress should your situation change or your payments increase in the near future, you should choose a longer term. Longer terms typically have lower payments, better interest rates (right now, when they’re at historical lows), and they can provide peace of mind because you’ll be paying the same amount each month, over a long period of time. This is also good if you’re at the beginning of your mortgage and know that you’re going to have the loan for a long time to come.
Short-term mortgages however, have their place, too. Not everyone wants to be, or needs to be, locked into their mortgage for the next 5 or 10 years, and this is when a shorter term can come in handy. A shorter term allows those with extra cash flow to pay off large amounts of their mortgage at one time, with no prepayment penalties because they’re not breaking the term. It also doesn’t make sense to have a long term if you’re near the end of your amortization period and aren’t going to need a very long term.
But aside from those who are affluent, shorter term mortgages can be appropriate for other situations, too. Shorter terms can be suitable when you need a sub-prime mortgage while you rebuild your credit. And if you know that you’re going to need to refinance in a few years to free up some cash flow for college tuition or home renovations, a shorter term will mean saving you money when it comes time to pay for those things.
Choosing between mortgage terms can be a tough decision. And while these are a few good pointers to begin with, there’s just as much involved in choosing your term as there is when choosing your interest rate – if not more. It’s important that you speak to a Toronto mortgage broker that can help you sort out which term is best for you.