Fixed mortgage rate or variable mortgage rate? This is one of the most frequent questions I answer on a daily basis. To be honest, it all depends on the client. Similar to investing, it depends on your risk threshold. If you are the type of person who wants to know exactly what your payments are going to be for a fixed amount of time, obviously, you should go fixed. If you are comfortable with knowing that your payments may go up or down throughout the term of your mortgage, go variable. In the last 8 years that I have been in the mortgage industry, variable has been the way to go. Except for a couple of months in 2012, the variable rate offerings have been lower than the fixed rates.
Allow me to give you an up to date example of what rates are doing today:
Most lenders are offering 5 year fixed rates at 3.60%. (I can get you a better rate than average, of course). The average variable rate mortgage rate is at prime (3.00%) minus 0.40% – 2.60%. That is a difference of 1%.
For this example we will use a mortgage of $200,000 with monthly payments and an amortization of 25 years.
5 year fixed rate payment is $ 1,009 / mth.
5 year variable rate payment is $ 905 / mth.
That is a difference of $ 104 / mth. That may not seem like a lot, but if you compound the savings over 5 years (assuming the prime rate doesn’t go up) that is a potential savings of $ 6,240 in payments alone. What about the interest savings? In this example, you would save over $ 9,451 over the 5 year term by selecting the variable rate.
The average change in Prime Rate has been an increase or decrease of 0.25%. On a $200,000 mortgage, if the interest rate increases 0.25%, the monthly payment on the variable rate will increase by $ 26.
The best option is whatever allows you to sleep at night. If you can manage and tolerate an increase in your mortgage payments in an attempt to save some money, variable is the right option for you. If you need to know what your payments are going to be, then don’t sweat it, fixed is optimal for you. If you like the security and want to pay down your mortgage a little bit faster and reduce your borrowing costs, then make extra payments on your mortgage. Every little bit helps.