If you have been dreaming of renovating your kitchen, purchasing an investment property, or wanting to consolidate debt, refinancing your mortgage might be the solution.
In short, refinancing your mortgage means paying out your existing mortgage with a new one, either with the same lender or by moving your mortgage to a new lender entirely.
“At refinancing time, it is important to think of both long and short-term goals such as how long you plan to live in the home, if you plan to continue at your current job, or has your credit rating dropped,” notes Morgan Pryor, Virtual Financial Consultant at Westoba Credit Union. “All these factors will help determine the structure of your refinance.”
There are many reasons to consider refinancing your mortgage, from getting a lower interest rate to accessing the equity in your home or consolidating debt. Below are some of the more common reasons for refinancing:
Lower interest rate
A great long-term strategy, refinancing to unlock a lower interest rate on your mortgage can save you a lot of money over time. Keep in mind that you might incur a pre-payment penalty depending on the balance of your current mortgage, but don’t let this deter you. In the long term, refinancing to get a lower interest rate could save you much more than the pre-payment penalty.
You can expect to pay a penalty of three months’ interest if you hold a variable-rate mortgage, but if you hold a fixed-rate mortgage, you will pay the greater of three months’ interest or interest rate differential penalty (IRD).
Working with your Westoba mortgage expert will ensure that your new mortgage is flexible and free of high costs and penalties that can hurt you should any life changes occur in the future. You may also want to consider a fixed rate vs variable rate mortgage depending on your goals – more on that below.
Remodelling or renovating your home
Renovating or remodelling can add value to your home, and by refinancing your mortgage, you could potentially access up to 80% of your home’s value, less any outstanding debt, to put towards your home improvement projects.
That said, renovation costs can be unpredictable. Make sure you take out enough funds to cover your entire project – it’s easy to put any leftover or unused funds from your renovation back onto your mortgage in the form of a pre-payment, but it is very difficult to access additional funds. Err on the side of caution and take out more than you think you’ll need to be safe.
Keep in mind that there is a diminishing rate of return on every dollar spent when it comes to home renovations. While your initial spend to remodel your kitchen might add double the cost of the renovation to your home’s value, renovating your bathroom might only increase your home’s value by 150% of your spend, and your next project after that might not add any value at all. To maximize your investment, focus your efforts on the kitchen, bathrooms or basement – areas of the home that will most increase your home’s value.
Investment
Accessing the equity in your home could also offer you the opportunity to invest in an additional property or other investment opportunities. Like many Canadians, you may find yourself with a high pension, which in turn results in a low Registered Retirement Savings Plan (RRSP) limit. In this case, it may make sense for you to access low-interest mortgage funds to invest in a Tax-Free Savings Account (TFSA). As the name implies, this tax-free tool could be a great opportunity to increase your investments.
That said, any funds used to invest in non-registered investments will likely be tax-deductible. Investing in a rental property, stocks or bonds, a second mortgage, or any other investments that lead to new income will be tax-deductible. It is a good idea to speak to your mortgage expert before deciding to refinance your mortgage for investment opportunities and determine whether it makes sound financial sense for you.
Consolidating Debt
Using built-up equity in your home to pay off high-interest debt is another reason refinancing your mortgage might be a good idea. Being able to consolidate debt such as a car loan, a line of credit or credit card bills can help increase your cash flow and make life much easier by only making one easy payment each month.
“Refinancing can help you pay down high-interest debts faster, while taking advantage of lower interest rates,” says Pryor. “By consolidating any of these items off your stress pile, you can, in turn, protect your future borrowing power (credit rating) by avoiding any possible missed payments and save on interest costs with one lump sum payment.”
With fewer monthly payments, you can then increase your mortgage payment and end up ahead by paying out your mortgage faster and paying less interest.
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Now that you know the different ways refinancing your mortgage might help you, it’s important to understand how the refinancing process works. Your Westoba mortgage expert will go over each step with you in detail, but below are three ways to refinance your mortgage.
Breaking your existing mortgage contract
Option one is for you if you want to obtain a lower interest rate or access equity from your home. As mentioned above, this means you will incur a pre-payment penalty, but your new mortgage rate might make the upfront penalty worth it long-term.
Add a home equity line of credit
A home equity line of credit (HELOC) functions very similarly to a credit card but as a secured loan and with much lower interest rates. The advantage to a HELOC is that it can be accessed at a later date (does not need to be used immediately) and any money paid back on the HELOC can be accessed again down the road – a great option for those that are self-employed.
HELOCs are best used if the funds are borrowed and paid back quickly to avoid paying interest on any outstanding balances. But keep in mind that mortgages that carry HELOCs usually carry higher overall interest rates.
“In some instances when the purpose is for something small or short term, a refinance may end up costing you more than you will save in the long run,” says Pryor. “A home equity line of credit could help to bridge this gap. Funds would be easily accessible, you only pay for the amount you use, and easy to pay back at your convenience.”
If you plan on using the funds immediately for a large renovation project or investment, refinancing your mortgage may be a better option as your interest rate will be lower than on a HELOC. However, unlike a HELOC, any funds accessed and repaid on the mortgage through a refinance cannot be accessed again in the future unless you refinance your mortgage again.
Blend-and-extend your existing mortgage
Westoba Credit Union offers a blended rate, which is a combination of your current mortgage rate with the addition of any additional funds borrowed at current market rates. This means your current mortgage term is then replaced with a new mortgage term, but blended rates may be higher than the most competitive rates on the market.
“At Westoba Credit Union, we recognize that times may be tough, especially given the last few years we have all endured, and mortgage refinances are becoming more common,” says Pryor. “By blending and extending your mortgage, your current mortgage interest rate is blended with today’s posted rates, and the new term of the mortgage is extended beyond the length of the original mortgage agreement. This product helps to eliminate costly penalties.”
Before proceeding, compare the savings of blending and extending your mortgage vs the penalty of breaking your mortgage to secure a new mortgage at a lower rate.
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Costs of refinancing
The cost really depends on which of the above three options you choose in order to refinance. If you choose to break your existing mortgage, you can expect to pay a penalty of three months’ interest if you hold a variable-rate mortgage. If you hold a fixed-rate mortgage, you will pay the greater of three months’ interest or interest rate differential penalty (IRD).
“There may also be associated fees if a property appraisal is required,” adds Pryor. “These penalties and/or fees can be costly and may outweigh the savings in the long run.”
If you choose to blend-and-extend your mortgage, you will not incur any penalties, but no matter which strategy you use, you may incur legal costs if the registration details of the property title must be changed or updated. That said, if your mortgage balance exceeds $200,000, many brokers and lenders will cover the legal fees.
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As you have now probably concluded, there are many pros and cons to refinancing your mortgage. To determine whether refinancing is right for you and your goals, speak to a Westoba Mortgage Specialist about your options.
“Be honest with your lender and know your home’s worth,” advises Pryor. “There are many options out there when it comes to structuring a refinance. When we as lenders can learn your full story, we can customize a plan that is going to be best suited for you and your family, and align with your goals and budget.”
Step one in getting the right mortgage is learning more about you, your home-owning goals, and your overall financial history and fitness. Let’s get that conversation started. Make an appointment with a Mortgage Specialist or call 1-877-WESTOBA.
