Don't overlook payment privileges

Understanding how they affect rates, penalties

Pre-payment privileges are the single-most overlooked aspect of a mortgage by borrowers. Consumers, for whatever reason, seem to gloss over them as if they are a feature of the mortgage that will never be used.

However, pre-payment privileges are important. They are what allow a borrower to reduce his or her amortization from 25 years to 10 years. They can also affect interest rates and payout penalties, which is why a better understanding of how they work, is important. Let's start with the basics. In the past, the standard pre-payment terms for most banks were 20 per cent plus 20 per cent. The two percentages represent the amount a payment can be increased and the percentage of the mortgage that can be paid off without penalty every year.

So, let's say you have a $100,000 mortgage with a $500 payment. Using 20 per cent plus 20 per cent privileges, you can pay off $20,000 of the mortgage without penalty. You can also increase your ongoing payment by $100 every year. Pretty simple?

Here is where it gets difficult. With a highly competitive rate market, many banks have adjusted their pre-payment privileges.

For example, RBC claims borrowers can prepay as much as 20 per cent or more of their original mortgage balances each year. Dig a little bit deeper, however, and RBC limits both lump sum payments and increase to payment options at 10 per cent, which is the lowest of all of the big banks.

Meanwhile, other banks such as BMO have experimented with no-frills mortgages that also have lower pre-payment options. The now-famous BMO 2.99 per cent mortgage is a fine example. Often, to get the best rate, borrowers must forfeit their ability to accelerate the amortization, which can be expensive both in term of interest paid and higher payout penalties.

Of all of the pre-payment options out there, my favorite is the ones provided by First National and Scotiabank. Both banks offer 15 per cent plus 15 per cent plus "Double Up." Double Up is exactly what it sounds like – the ability to double monthly payments as often as you like.

Unlike the option to increase payments by 15 per cent, which is permanent, borrowers can use the "Double Up" option one payment at a time, or on an ongoing basis. Double Up, when combined with 15 per cent privileges, make Scotiabank and First National's mortgages the best in the industry when it comes to pre-payment – even better than the 20 per cent plus 20 per cent option that was once the norm.

Nolan Matthias holds a bachelor of arts in Economics, is the co-founder of Mortgage360 and the author of The Mortgaged Millionaire. Call Nolan at 403-615-6132 with your questions or to set up an appointment with an Accredited Mortgage Professional (AMP).

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