What is an Adjustable-Rate Mortgage?

Are you a THINK Financial client? Then you have an ARM with floating payments. A VRM with fixed payments are offered by some big banks.

Can the VRM derail your mortgage goals?

The VRM product provides budget certainty through fixed payments. But if rates go up and stay up during your term, you may be in for 'payment shock' when it's time to renew.

The higher the rate goes, the more interest you pay, with less going towards your principal. That lengthens your amortization, which can quickly tick upwards to beyond your original time — called a negative amortization.

If rates rise enough to hit and surpass your trigger rate and trigger point, both your amortization and mortgage balance will continue to increase. The lender will likely contact you to raise your payment or pay a lump sum well before your renewal, but it may not be enough to stop your amortization from increasing.

So, the risk of a VRM is the potential for the fixed payments to derail your mortgage budget and goals, by forcing you into much higher payments than expected at (or before) renewal. You'll also pay more interest overall, likely negating any variable-interest savings you were hoping for in the first place.

There is a flip side to this risk. If rates go down enough during your term, more of your payment will go towards your principal, which may help balance out previous increases or continue their pace to pay off your mortgage sooner.

The ARM may offer better long-term savings

Many in the mortgage industry, including True North Mortgage CEO Dan Eisner, feel that the ARM's floating payment is a better choice IF you can handle the potential for increasing payments.

That's why it's the only variable-rate product offered by our in-house lender, THINK Financial. Dan looks at the bigger (mortgage) picture: "When rates go up, your payments are increasing gradually, allowing some time to adjust, versus the potential 'big payment shock' that may await you at renewal time with the VRM product." He adds, "Plus, you're more likely to keep your variable-rate savings intact, without the risk of increasing your interest costs through the fixed-payment vehicle."

Variable rates offer lower penalties to break.

Compared to a fixed-rate product, both the ARM and VRM also offer significantly lower penalties for switching to a different product or lender (3 months interest vs IRD calculations), which is sometimes the deciding factor that tips a homeowner into a variable-rate product.

Why adjusting payments are better for your budget if variable rates go down.

If and when rates do finally start to drop, your payments will adjust down with each drop for lower mortgage payment and some welcome budget relief."

With a VRM, you likely won't be able to change your payment amount with the lender — and if you have a negative amortization by the time you renew, you'll hit higher payments even if rates have dropped.

Have questions about your variable rate product?

It's important to know which type of variable product you have, or which one is the right choice for you. We have access to several lenders AND products, including those offered through our own lender, THINK Financial. Talk to us today if you have questions!

We're always here to run the numbers for you and provide options if you'd like a change, or if you need more ideas on how to save on your mortgage.

At True North Mortgage, our highly trained brokers have the tools and experience to help you make the right choice for your budget. Give us a shout anywhere you are in Canada — for 5-star mortgage advice.