Variable mortgages have surged in popularity. Are they still the cheaper choice?

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How will rising interest rates affect homeowners?
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A majority of Canadians buying a home or renewing a mortgage preferred the lower upfront cost of a variable rate rather than the peace of mind of a fixed loan in the second half of 2021, according to a new report released Wednesday.

The Canada Mortgage and Housing Corp. (CMHC) said in its bi-annual report on the country’s mortgage industry that 53 per cent of home buyers and loan renewers chose a variable rate mortgage over a fixed one in the final six months of last year. Just over a third (34 per cent) had opted for variable in the first half of 2021.

CMHC pointed to the wider spread between rates offered for fixed and variable mortgages in the latter half of the year as fuelling the shift in preferences.

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But it noted that as the Bank of Canada has started to rapidly raise its benchmark interest rate through the first half of 2022 and variable mortgages get more costly by the month, that trend “seems to have plateaued.”

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Variable mortgage rates are offered at a lender’s prime rate minus a discount and react immediately to the Bank of Canada’s rate hikes, while fixed rates hold steady through the length of the term.

CMHC senior specialist of housing research Tania Bourassa-Ochoa tells Global News that the departure from the historic norm, which saw Canadians opt for five-year fixed-rate mortgages, are starting to bite homeowners as the Bank of Canada raises interest rates.

“Canadians that did contract a new mortgage with the variable interest rates will be feeling the pressure of rising interest rates,” she said.

Is variable still the cheaper option?

Variable rate holders will be carefully watching the Bank of Canada’s next move on July 13, when many big bank economists expect the central bank will hike rates by three-quarters of a percentage point in an effort to tackle red-hot inflation.

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James Laird, co-CEO of, said in a press release Wednesday that he is among those expecting the central bank to deliver its first  75-basis-point hike in 24 years next week.

He laid out a sample scenario exploring the effects of such an increase on a homeowner who put 10 per cent down on a home worth $711,000 — the average Canadian home price in May — with a five-year variable rate of 2.5 per cent on a 25-year term.

That household would see its rate immediately jump to 3.25 per cent, paying an extra $252 per month or more than $3,000 annually, he calculated.

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A rate hike of 50 bps, on the other hand, would see monthly costs rise $167, or a roughly $2,000 annually.

But while variable rate holders might feel the effects of rising rates more immediately, fixed-rate holders will eventually have to stomach higher costs when they renew at the end of their term.

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“For homeowners that locked into a historically low five-year fixed-rate mortgage, there’s a good chance they could face a higher rate upon renewal,” said RATESDOTCA expert Sung Lee in a release on Wednesday.

Lee wrote that despite rising interest rates, opting for variable rates at the time of renewal can still offer a lower cost for initial instalments, “assuming you can handle interest rate and payment fluctuations without losing sleep.”

He suggested lengthening the amortization of your mortgage — the time over which you pay back your loan — as a a possible strategy to keep payments manageable until the interest rate cycle brings costs down again in the future.

Bourassa-Ochoa also said variable rate could still be the cheaper option, but cautioned homeowners to be prepared for uncertainty in the months to come.

“You could expect to see a discount between the variable and the fixed interest rates, but it’s hard to say whether that’s going to continue,” she said.

Alternative lenders popular as conditions tighten

In addition to more of a variable preference, Canadians were taking on plenty of new mortgage debt overall last year. CMHC said residential mortgage debt grew by nine per cent last year compared with a year earlier for the fastest pace of growth since 2008.

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The federal housing agency said the growth was driven by increases in both the value and volume of uninsured mortgages for property buying and refinancings.

Banks saw a 43-per cent increase in new mortgage originations and an increase of 22 per cent for refinances compared with 2020, leading to an additional $400 billion in residential mortgages on their balance sheets, while credit unions added $54 billion.

“So households are highly indebted. And it does remain a vulnerability,” Bourassa-Ochoa says.

The CMHC report also showed insights into the alternative lending market, which it showed rose to a total value of $15 million in 2020 compared with $9 million in 2015.

The agency notes that alternative lenders — typically private mortgage providers outside the traditional banking or credit union sector — were growing in popularity in the run-up to the pandemic as a “short-term alternative” to the “conventional” lending space.

Bourassa-Ochoa says alternative providers offer borrowers a path to a mortgage when they’re unable to get a loan through a conventional lender. These loans are typically shorter term but come with much higher interest rates.

CMHC said that the majority of alternative mortgage takers (72 per cent) were able to achieve a successful “exit” in 2020. This means an alternative mortgage was transitioned to a conventional loan at the end of the original term, or the property was sold without being foreclosed or the borrower defaulting.

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This figure has declined since the period between 2006 and 2015, the CMHC noted, when 80 per cent of alternative lenders achieved such an exit.

Getting into the conventional lending sector becomes tougher in higher rate environments and when regulations tighten, such as the changes made last year to the mortgage stress test, Bourassa-Ochoa notes.

Consumers who turn to the alternative lending market are also more susceptible to mortgage “delinquency,” Bourassa-Ochoa says, where borrowers miss mortgage payments for more than 90 days.

But overall, she says that delinquencies are at “historically low levels,” coming in around 0.15 per cent for traditional lenders and 1.5 per cent in the alternative market.

Home ownership not a level playing field for all Canadians

The report also found that rates of homeownership were lower than the national average for Black, Indigenous, Latin American and Arab Canadians, per data from the 2016 census.

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Property values for this segment, as well as for Filipino Canadians, were also lower than the Canada-wide average. This value gap has only widened since the 2006 census, the CMHC noted.

Recent immigrants (those who arrived within the past seven years) also showed lower home ownership rates than the Canadian average. The CMHC said this suggests newcomers struggle to access the financial system after arriving in Canada.

Its report does not offer prescriptions to resolve these discrepancies, but Bourassa-Ochoa says the data can provide a starting point for new policies to address barriers to home ownership for racialized and immigrant Canadians.

“The intent is really to shed some light on these differences and shed some light on possible inequalities and possible discrimination in the housing finance system, and to really help policymakers and stakeholders be able to make more informed decisions,” she says.

— with files from The Canadian Press

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