Applying for a fixed-rate mortgage ? Why you need to do your homework

Decoding the mortgage market

When mortgage shopping, take a minute to understand your lender’s rate-drop policy before you send in your application

Applying for a fixed-rate mortgage ? Why you need to do your homework

Robert McLister
Special to The Globe and Mail
 
Published Last updated
 
Recently sold house at 592 Manning Ave., Toronto March 04, 2014. (Fernando Morales/The Globe and Mail)
 
Imagine you’ve applied for a five-year fixed-rate mortgage. Then, before you close, the lender drops its best five-year fixed interest rate. You’d expect that new lower rate, right?
 
Most people in this position would. But with some lenders, that’s not the way it works.
 
If you’re going mortgage shopping, take a minute to understand your lender’s rate-drop policy before you send in your application. Too many people don’t and it ends up costing them.
 
How rate drops normally work
 
Typically, if you’ve been approved for a mortgage and the lender drops its rates before your closing date, the lender will lower your rate as well. Every lender has its own policies, though. For instance:

· Some lenders allow you only one rate drop. Others allow multiple.
· Some lenders only permit rate reductions up to seven days before you close. Others give you their best rate right up until your closing date.
· Some lenders automatically lower your rate. Others require your banker or mortgage broker to manually request the rate adjustment. In this latter case, you better have a reliable mortgage adviser or keep tabs on rates yourself.
 
The best-case scenarios are those lenders with “look-back” policies. This means they’ll look back and give you their lowest rate from the time you applied until the time you closed. Those lenders are few and far between but any good broker knows who they are.
 
How other lenders operate
 
More and more lenders are adding “no-float-down” clauses to their fixed mortgage rates. This is particularly true with certain non-bank lenders.
 
“No float down” means your rate cannot be adjusted lower if that lender comes out with a better deal. Those lenders make those lower rates available for “new business only.”
 
Now, you may be thinking, “I’m a good client, why should a new customer get a better rate than me?” The answer, lenders say, is profitability. When you get a fixed mortgage, the company funding your mortgage generally “hedges” that rate, meaning it pays for an expensive form of rate insurance. This ensures the lender doesn’t lose big if rates jump and it has to honour the lower rate it promised you.
 
If rates fell and the lender didn’t have a “no float-down” clause, it would incur the cost of that rate hedge and have to give all of that rate savings back to you, the customer. But with mortgage competition so fierce and margins so tight, some lenders can’t afford to do that anymore.
 
When rate drops matter
 
If fixed rates are rising or going sideways, “no-float-down” policies shouldn’t hurt you. If fixed rates are in a downtrend, however, it pays to have that rate-drop option, other things being equal.
 
I say “other things being equal” because float-down privileges are rarely the deciding factor when choosing a mortgage. A lower upfront rate or better mortgage features can often negate the disadvantage of no-float-down restrictions.
 
Moreover, the odds of rates dropping decline the closer you are to your closing date.
 
In case you’re curious, fixed mortgage rates drop from one month to the next about 38 per cent of the time. That’s been the case since 1951 at least, according to Bank of Canada data.
 
Historically when rates have dropped – versus the prior month – the average decrease has been 0.23 percentage points. Even if you ignore 1973 to 1993, a volatile period of surging and plunging rates, the average decrease was still 0.17 percentage points. On a $200,000 five-year mortgage, a 0.17 percentage point rate drop would save you about $2,500 in interest.
 
If your mortgage does come with a rate-drop feature, contact your mortgage adviser about 10 days before you’re scheduled to close. Don’t take it for granted that someone will notify you automatically if rates are lowered. Ask if your lender has offered cheaper rates since you applied for your specific term and rate hold period. (Those last three words are important because lenders generally don’t let you have their lowest 30-day “quick close” rate if you originally applied for a 60, 90 or 120-day rate.)
 
Make it a point to understand your lender’s rate-drop policy. Every tenth of a per cent matters and you never know when interest costs will dip.
 
There are 300-plus lenders to choose from in this country. If you pick one with a “no-float-down” policy, be sure the rest of the mortgage terms make up for it.
 
Robert McLister is a mortgage planner at intelliMortgage Inc. and founder of RateSpy.com.
 
Source: The Globe and Mail