Open vs. Closed Variables

Open-or-Closed-Variable-MortgageFolks often consider closed variable-rate mortgages to be restrictive because they can’t be paid off early without a penalty. 

For some, that’s a legitimate concern.

On the other hand, most (not all) closed variables allow you to terminate with a fairly reasonable 3-month interest penalty.  In addition, with a closed variable you pay about 0.70% less in interest (as of today) than you would in an open.

As a result, if you plan to break your mortgage early, you may save more by choosing a closed variable—despite the 3-month interest penalty.  Naturally, however, it will depend on the rate differential (between an open and a closed) and how long you plan to stay in the mortgage.

As an example, suppose that after 10 months you wanted to pay off a $300,000, 5-year variable-rate mortgage at prime (2.25% as of today).  In doing so, you’d be charged a 3-month interest penalty of about $1,688. 

That’s less, however, than the extra interest you’d pay over 10 months on a 2.95% open variable.  Given today’s 0.70% spread between open and closed rates, this 10-month guideline can be helpful when figuring out if an open variable is worth it.

Another benefit with most closed variables is their flexibility to be ported to a new property without a penalty. 

So, if you consider all the angles, closed variables are often less restrictive than many think.

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Assumptions: The above analysis assumes that prime rate does not go up, the amortization is 25 years, the borrower makes regular monthly payments, and a simple 3-month interest penalty applies. Some lenders calculate their variable-rate penalties differently, so speak with a mortgage planner for guidance specific to your circumstances.

  1. I did the same calculation and my three months penalty came to around 5K so I decided to switch but my bank (BMO) said the penalty was about 23K. Surely, there is something in fine print. Appreciate a reponse.

  2. Are you sure it is not IRD ? (which probably it is, -if you have a fixed rate mortgage).
    To have a 3-month interest penalty at $23k, you need to have a mortgage balance of about $2.5 million bucks (assuming a 4% or so rate) or more !

  3. I think kevin is a good example of people not knowing what they have signed! I agree with John, sounds like you have an IRD penalty. maybe see if there is a port, or increase and blend option to avoid the penalty.

  4. BMO is one of the few lenders that charge IRD on their variable mortgages. That is what I was told.
    Stick with lenders that just charge 3 months of interest penalties.

  5. Hi,
    I understand the trade offs between open and closed variables, but are the example rate differences typical?
    I am in an open variable currently at 2.49%. This rate was below prime before the credit crunch so I expect it follow that pattern in the future. In addition I make a regular pre-payment each month ( about 10% of my monthly payment)
    This seems like a good fit for me, but should I be considering another product?
    Any advice would be appreciated.

  6. Hi dayLateDollarShort,
    If I was in your situation and had a variable below prime and have at least 3 or more years remaining in my original term – I would stick to my variable below prime. If I was renewing in a year or Two I would convert to a less restrictive 5 year Fixed Term as long as you get it below 4.09 %
    The logic : The prime minus deals are not very far behind with ResMor Trust offering Prime minus 5bps on a 4 year term. If my term renewed in the next 3+ years – even though prime may be high at that time, I may still end up getting a good discount on the prime rate.
    Rajesh Kothari

  7. I m about to renew my mortgage with RBC. I am planning to go for 5 year variable closed @ 2.3 % as this rte seems very attractive at this point. But I am expecting to sell my house in near future 6-18 months. What will be the penalty three months interest or IRD? How does RBC calculates penalty on a variable closed mortgage?
    Any help will be appreciated.
    Dave

  8. Hi
    I’m not sure what to do regarding my two loans. I have a mortage owing approximately 130,000.00 and a line of credit of 22,000.00. I currently pay 2.5 for the mortage on an open variable and 3.5 on the same. I would like to burrow 140,000. And pay one charge. I’ve been thinking about a closed variable. I’m not sure looking at the best option with lower interest payments. Please advice. Thanks!

  9. Hi,
    My current property worth 185k and I have balance of 93k pax 49% DP with 2.6% variable rate. I m thinking to refinance and rather than keep big dp just refinance and with 20% DP I can Use my payback money to buy 2nd investment property worth same and 20% DP as well so, without any money out of pocket I may have two condo and 2nd I can rent. What best suggestions please. Should I buy 2 nd condo !! Pros and Cons please
    Much Appreciate
    Prince

    1. Hi Prince,
      Thanks for your comment. We appreciate hearing from readers and get dozens of email requests each week for advice. Unfortunately CMT is a news site so we’re not equipped to answer more involved questions pertaining to personalized mortgage planning. However you can find a professional no-fee mortgage planner nearest to you at the following page: http://caamp.org/findabroker/

      Have a wonderful day!

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