Please help with mortgage math

[vnwind]

Hi guys

I got a problem and I am not that great with Math so here I am asking Math wiz people on this forum

I got my mortgage last Dec for 5 year closed for amount of 278000 at 5 years closed rate 3.09% :-(

so i asked my bank for options and they gave me this

Option 1; add the penalty to balance of mortgage of $2,126.80 to early renew to current discounted rates. The following rate is available at today's date.

Term Rate%

5 year closed 2.84%

Option 2; blend the rate with the current discounted rates of today and extend to a longer closed term. If you early renew, blend the rate and extend the term there is no penalty required from you. The following blended rate is offered as at today's date.

Term Rate%

5 year closed 3.07%

I think Option 1 is better because the interest I save over the 5 year period of 0.23% amortizing over 30 years is around $1000.

However, I can't come up with the number of how much principle that i would pay down and money that I save for 5 years because now I am making a smaller payment now.

Are there any saving here?

Thanks

 

[Thomas Beyer]

Doing nothing is the right approach.

A variable rate around 2% is the right solution, but for that it is now too late due to penalty.

Never ever again get a five year fixed rate in a low, and still falling rate environment. You overpaid by 50%, as a 3% mortgage is 50% more than 2%.

Book to asset column of life under " lessons learned" and move on. Next time you will be smarter.

Don't major in minors.

 

[vnwind]

Thanks Thomas

I understand that variable rate is much better option than fixed rate at this time, however it was my first rental property so I wanted to have everything fixed, this way i can manage my monthly cost and cash flow easier. (trying to make things simple on my first one).

Will try to get variable one on my next rental tho.

Please share me your thought on my current situation? do nothing? I did some more math last night and if I go with Option 1, it seems like at the end of 5 years, I am saving around 6K (priciple + interest) just to sign couple of papers.

 

[Thomas Beyer]

Are you sure the penalty is this low ? Usually it is the higher of:
a) 3 months interest, or
b) interest rate differential to maturity,

and with a few months in only the penalty might be well into 5 digits.

Why not refi with a 2% variable rate for 5 years ?

[quote user="vnwind"] I am saving around 6K (priciple + interest) [/quote]

You should count only interest savings, as principle is your own money shuffled from left to right pocket.

 

[vnwind]

yes, I asked the mortgage company and that was the number they gave me. you are absolutely right about that I should only count interest saving.

 

[Thomas Beyer]

[quote user="vnwind"] interest I save over the 5 year period ... is around $1000.[/quote]

So $200/year or less than $20/month. I'd say doing nothing is the best option still.

Besides the noble art of getting things done, is the more noble art of leaving things undone.

 

[Sherilynn]

I stopped reading at post number 1 because I am shocked by this thread. Are we seriously complaining about any interest rate lower than 4%?

When I lived in New Zealand and started investigating RE investing as a career, the interest rates were at 8% and deals still worked. So if you are having trouble with ANY interest rate below 5%, then you have bought poorly.

Plan your deals at a 5% interest rate (sort of the average interest rate in Canada over the last several years) and if you get anything below that rate then sit back and enjoy the ride.

Real estate investing is not day trading. You aren't meant to rethink every decision and change your mind 6 times a day.

Relax and go snorkel in some tropical seas.

 

[Thomas Beyer]

[quote user="Sherilynn"]Are we seriously complaining about any interest rate lower than 4%?[/quote]
No one is complaining. But 4% is 100% more than 2%, and with falling CAP rates the spread to (low) interest rates is relevant. rates will stay low for far longer, far lower than most people think. Likely to 2035+ .. and will go lower still in Canada ! As such, going variable is better in almost all cases, except for the most timid investors or home owners. Banks love uneducated home buyers so they can nail them with 3.0-3.5% fixed 5 years mortgage, 70% more expensive than necessary ! Expensive insurance indeed.

[quote user="Sherilynn"]Real estate investing is not day trading. You aren't meant to rethink every decision and change your mind 6 times a day.

Relax and go snorkel in some tropical seas. [/quote]
Well said.

 

[Sherilynn]

[quote user="ThomasBeyer"]No one is complaining. But 4% is 100% more than 2%, [/quote]

I realize that, and my comments were meant tongue in cheek.

However, I remember thinking not long ago "when fixed interest rates dip below 4%, then I'll renew my 1-year promo rate into a 5-year fixed." And when they did, I renewed. And even though interest rates dipped to 3.3% during that 5-year term, I was still happy I renewed because my payment was substantially lower and my cashflow was substantially higher than I had with my previous mortgage.

Historically, variable interest rates outperform fixed interest rates. However, we aren't always in the position to tolerate a rise in rates, so a good fixed rate is comforting. When you are in that position, it's okay to take the good fixed rate and sleep well at night, and forget about the new, lower fixed rate until you buy another property to take advantage of that lower rate.

 

[Seeley]

"So if you are having trouble with ANY interest rate below 5%, then you have bought poorly".

Based on your own statement I would add that if as a investor you can not tolerate the uncertainty of variable rate mortgages you have bought poorly. Being a investor is all about risk tolerances.

 

[Sherilynn]

[quote user="Seeley"]Based on your own statement I would add that if as a investor you can not tolerate the uncertainty of variable rate mortgages you have bought poorly. Being a investor is all about risk tolerances.[/quote]

Not necessarily. Variable rate mortgages are not always the best option as their terms can change dramatically. For instance, a few years ago the going variable rate was prime + one (therefore higher than fixed rate mortgages).

Furthermore, one's risk tolerance is usually different depending on one's position in one's investing career. When I first started investing, I liked the security of a fixed rate mortgage. The market was already high and cashflow was lean, so we didn't want to face a rate hike. (BTW, even variable rates were higher than 5% at that point.) My risk tolerance is much higher now.

And I should add we always maintained healthy cashflow on our properties because we planned well and kept the properties in great condition.

 

[vnwind]

Yes I want to reduce my risk as much as i can on my first property. I will be smarter on my next one for sure

 

[neill]

Is there an option to pay the same $2100 payout penalty and convert it to a prime minus 0.6 or better? If you go from 3.09 to 2.25%, then your interest savings will be ahead just before the first year has passed on your new term.

$278k (which will be approx the average balance in the first year of your new term, including the penalty - hitting it a smidge high to be safe)
x 0.0084 (rate difference 3.09 less 2.25)
= 2,335 less interest in the first year. (more or less break even - higher principal, less interest)

After year two of renewal, you will then be ahead by approx:
$273k (I didn't run an amort sched, as I don't know if you are on 25 or 30 years, but again, should be safe to the high side)
x 0.0084
= 2293 (true savings in your pocket)

The variable versus fixed part age old discussion comes in to play, and I also second Thomas' question on if the payout penalty that you have been quoted is accurate.

On another note, bond yields are on the rise, which may push fixed rates higher - I haven't been actively shopping rates, but have read 2.69 five year fixed is easy to get these days....