How to Handle Your Mortgage When Rates Rise

Ruth Saldanha: The number one priority for all Canadians who recently bought a home is how to manage their mortgage in a rising interest rate environment. That is where actually having a financial plan really helps. To help walk us through some scenarios we have Jason Heath, Managing Director at Objective Financial Partners here with us today.

Jason, thank you so much for being here today.

Jason Heath: Thanks for having me, Ruth.

Saldanha: Let's start by talking about the most important thing on everyone's mind interest rates, inflation and everything that's going up and down at the same time. What should investors and savers do right now?

Heath: It's a good question. It's kind of a unique year because nothing has worked well; stocks are down, bonds are down, real estate is down, interest rate, inflation is up and that's what's causing a lot of the turmoil right now in the markets. I think that something to be mindful of is that recessions happen. We're likely entering a recession. Inflation can ebb and flow.

I think in the long-term, people need to be aware as investors that there's going to be good years and bad years. But from a financial planning perspective, it would be nice if everything went in a nice straight line, but it doesn't. There is going to be shocks that happen over the course of your life. Sometimes they might be macroeconomic shocks, it might be a war, it might be high inflation, it might be a recession; sometimes they're little like family microeconomic shocks where it's a job loss or a health issue, or even a divorce. In long run, financial planning is a way to reset after something happens and recalibrate, and I think that this is a year for people to be doing that.

Saldanha: People who are suffering a little bit more right now are borrowers, and I'd like to walk through three scenarios, especially for people with mortgages. The first one is people who have variable or floating rate mortgages who are probably going to feel these impacts of the higher rates almost immediately. What should they do?

Heath: Well, they're starting to get letters in the mail that they've hit their trigger rate, where their payments are not keeping up with the interest. Lots of people who had very low interest rate mortgages that have been impacted by the rate increases and payments are going up as a result. So, for those people, I think it's a matter of considering whether they have options. They may have money in their tax-free savings account, for example, that they can draw upon. They may be contributing to their TFSA and might need to reconsider whether investing is a better option compared to debt repayment, now that interest rate dynamics have changed.

But I think this is just a more normal interest rate environment, maybe we're a little bit on the high side, but the low rates we saw for so many years were really a temporary phenomenon.

Saldanha: The next cohort that I want to talk about are people who are probably going to have a rate reset over the short-term, maybe over the next 12 to 18 months. What should they do to kind of prepare themselves for their rates resetting?

Heath: Yeah, I mean anyone who took on a mortgage in the last four years was probably in the 1.5% to 2.5% range. If they had a fixed rate mortgage, that's likely to be 5.5% or 6% as their mortgage comes up for renewal. I think they need to anticipate the fact that their payments may need to increase to stay on the same amortization. Amortization is a backup plan.

If you took out a 25-year mortgage and you are five years in and it's now 20 years, you can push out the amortization to 25 or sometimes even 30 years to bring down your payments. It's like a band-aid though, it's a short-term fix. In the long run, I think there is going to be people planning to have higher payments for their debt and perhaps changing how they spend and save so they can stay on track for the long-term.

Saldanha: And the last cohort are probably the people who have pushed out the pain the most, the people who have just taken a low mortgage and would expect to reset maybe five years in. But rates seem to be high, and it's – most people say it's unlikely that they'll reduce. So, what should this group do?

Heath: It's a good question. My crystal ball is no better than anyone else's. I would not be surprised, though, especially if somebody has a few years left on their mortgage, if rates were lowering a few years, we're likely to see a rate increase next month in December. Rates could still rise going into 2023, but it's also not inconceivable that rate increases cause inflation to subside. If we have a recession, interest rates may come down. So there may be people who see lower rates when the mortgage actually comes up for renewal. I wouldn't count on it. I would plan for higher interest rates and I would re-evaluate what that means for your spending and saving and the budget that you have for repaying your debt.

Saldanha: Great. Thank you so much for joining us today with your perspective, Jason.

Heath: Sure. Thanks for having me, Ruth.

Saldanha: For Morningstar, I'm Ruth Saldanha.