Hitting the trigger rate means that the mortgage owner is no longer paying back the principal of the loan and is only covering the interest. This is a key point that encourages lenders to force additional payments on homeowners.
Explanation of trigger rate and trigger point
Approximately 50% of fixed-payment, variable-rate mortgage holders reached the trigger rate specified in their mortgage contract by the end of October. Central Bank This represents approximately 13% of all Canadian mortgage holders.
As market interest rates for floating mortgages are expected to continue to rise, the Bank of Canada expects 65% of these mortgages to reach the trigger rate by mid-2023.
The findings are part of a central bank analysis tracking the impact on variable mortgage holders amid a campaign to raise interest rates and raise borrowing costs in hopes of slowing the economy and curbing inflation. obtained as a part.
Floating-rate mortgage holders were particularly popular for much of 2021 and early 2022, the central bank notes in its report. This is because low interest rates have made these products particularly affordable for those looking to renew their home or enter the housing market.
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However, these households are facing a surge in mortgage rates, as interest rates today are much higher than when loans were launched. The bank’s policy rate has risen by 3.5 percentage points so far this year, making him one of the most aggressive tightening campaigns in history.
The Bank of Canada notes that three-quarters of variable rate mortgages have fixed payments. That means these households typically pay the same amount each month on their mortgage when interest rates change. The difference when interest rates rise is that more payments cover the interest, rather than the principal amount of the loan.
Trigger rates occur when these fixed payments only cover interest on the loan.
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What happens after the trigger rate?
What happens when a homeowner reaches their mortgage trigger rate depends on the lender.
Some are quick to see monthly payments automatically increase to cover more of the interest and principal, while others see negative amortization, i.e. interest and minimal payments increasing the overall size of the loan. Some people are allowed to have longer mortgage terms because they are getting bigger.
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This can last for a period of time specified in the mortgage contract until a trigger point (again, depending on the lender) occurs, after which a single payment or more regular installments is forced.
Some lenders will contact the borrower before the trigger rate is reached and offer options such as switching to a fixed rate or a lump sum payment.
The Bank of Canada estimates that the median increase in recurring payments is about 5% higher than the current installments paid by households with this type of mortgage.
But those who took out a mortgage with a longer amortization period during a time when interest rates were “very low” could see an increase in payments of about 20%, the central bank said.
Other options include refinancing the mortgage, making early payments, or locking it in at a fixed interest rate to avoid the impact of trigger points.
The Bank of Canada said its estimate was likely the “upper bound” of the impact on mortgage holders, a worst-case scenario. This is given the options available to those struggling to pay, and the many homeowners who took out variable mortgages before the pandemic should continue to use them. get on track.
Higher rates are still a ‘pain’ for holders of floating rates
But Bank of Canada Senior Deputy Governor Carolyn Rogers said on Tuesday that adjustments to rising interest rates remain painful for modern homebuyers who take out variable-rate mortgages.
A study by the Bank of Canada found that variable-rate mortgages now make up about one-third of all mortgage outstandings, up from about one-fifth at the end of 2019.
In her prepared remarks, Rogers said risks to Canada’s financial stability have increased due to high levels of household debt associated with rising interest rates.
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Her comments echo those of Governor Tiff Macklem.identified the country’s housing market as ‘vulnerable’.He said high debt levels and home prices could “accelerate” a recession as interest rates rise and growth slows.
But Rogers said Tuesday that the Bank of Canada expects the financial system as a whole to withstand this period of stress.
— Using files from The Canadian Press
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