Re-financing your mortgage? Watch out for those insane penalties!

This from my friend and associate, Rita Cruse of Mortgage Alliance:

"There has never been a better time for people to take a close look at their current mortgages...

However the Bank's are also aware of the fact that rates today are significantly better then they were 6 months ago... So watch out for the penalties.. We are seeing "HISTORICAL PENALTIES" that are being quoted with these new historical low mortgage rates... I had one client this week with $36,000 being quoted.

In the last 2 weeks I have had clients penalties go from $4000 - $25,000 and up...

How can the Bank's get away with these "HUGE" penalties???

Because, it appears back in 2006 most of the major banks, rewrote the equation of the calculation of Interest Rate Differential.

I am using the following scenario for you to see how mortgage penalties are increasing.

Client has a $380,000 mortgage at 5.66% that will mature on Feb 1 2013 or in 3 years and 2 months.

Old Method of Calculation (before 2006)

The Bank would take your actual rate and compare it to the discounted rate of the equivalent mortgage ter m for the time remaining; they would then multiply your current mortgage balance by the difference in the 2 rates, and take the number of months remaining in your term.

Current Rate, 5.66%, subtract their current discounted rate for 3 years is 4.95% = .71%

$380,000 X 0.71% = $2698 X 3.16666 (3 years and 2 months) = $8543.65 (Still a really high number) but when you use today's rates the client would save over $14,000 just in the 38 months alone, and the client will benefit from the extra 2 years... I was using a new rate of 3.72% for this calculation.

New Method of Calculation

They now look at your current mortgage rate, figure out how much of a discount you receiv ed from the posted rate at the time you took out the mortgage. (The longer the term, likely the larger the discount.) In some cases it could have been 1.45 - 2.00% So if I use 5.66% (It was a 5 year term), but back when it was obtained the posted rate for the 5 year term was 6.75%, The identified discount amount is now 1.55%.

Now, the following will show you how the Banks are controlling the penalty amounts, forcing client's penalties to in some cases double or triple.

During the last 2 weeks, which was when these penalties jumped, the Banks forced a sizable drop in their Posted mortgage rates, if you look back in time the Bank's would advertise a higher posted rate, and then leave it up to the client to negotiate a lower discounted rate, back in 2006 this is why the Bank's rewrote mortgage penalty calculations, now by dropping the posted rate to be closer to their discounted rate they are actually more then doubling the amount of the differential.

Let's look at my example now.

5.66% - (4.95% (Current lowered posted 3 year rate) - 1.55% (Discount they received on old mortgage))
5.66% - 3.40% = 2.26% new Differential Amount


Now we can calculate the client's new penalty......

$380,000 X.2.26% = $8588 X 3.16666 (3 years and 2 months) = $27,195.76

My recommendation before you call me, is to call your bank first, find out your current mortgage balance, and get a quote on the penalty, and then call me......

If you had previously investigated your penalty more then 2 weeks ago, I highly recommend you call them again, as the penalty amount has likely to have increased.

The clients who are being affected the most are those who obtained 5 year fixed mortgages or longer terms after 2006.with the 5 major Banks, there are differences from lender to lender as to how they calculate mortgage penalties..... Not all lenders adopted these changes

I had a client who's rate is currently 5.79% and he will only be paying a $1800.00 penalty, depends on the lender and the amount of the mortgage.

One thing that is very clear is that with the BANK RATE at 0.25% there is not a lot of room for the BANK rate to go down any further, I think we have officially hit bottom, which means PRIME RATE has likely hit bottom as well...

I do have clients who are looking at getting out of their current Varaible rate mortgages to take advantage of these historical low fixed rates mortgages, and good news for them is the Penalites on these are very small.. There is no such thing as a Interest Rate differential on a Variable rate mortgage. This will give you the opportunity to lock your mortgage payment in for the next 5 years."

Rita Cruse is Mortgage Broker with Mortgage Alliance in Dundas Ontario. to reach her go to www.mortgagealliance.ca/ritacruse

Robert J. Morrow is editor of www.HamiltonHomeReview.com, an online real estate magazine serving Greater Hamilton, Ontario. Click here for a FREE SUBSCRIPTION sent to your email monthly. Click here to receive new Hamilton area listings in your email daily.