Open vs Closed Mortgages

There are open mortgages, closed mortgages, variable rate mortgages, and fixed rate mortgages. They each serve a great purpose, so let’s start by understanding open vs. closed mortgages. We’ll define and explain them all in this mortgage guide.

Closed mortgages are the most popular option in Canada. They provide a simple and manageable payment schedule with low interest rates. These mortgages assume that people will pay the loan down over the long-term.

There are two variations of closed mortgages that we want to explore here, and they deal with the interest rate you will be offered during each mortgage term until the loan is paid in full.

Many mortgages are only paid off after 20 to 30 years, but mortgage lenders split these years into terms, shorter time periods that are usually two to 10 years long. At the beginning of each mortgage term, including when you first get your mortgage, you will be offered an interest rate by your lender. That rate determines how much interest you will pay on your mortgage with each monthly or biweekly payment you make.

These interest rates can either be fixed or variable.

A fixed mortgage rate means that once you and your lender agree to a mortgage rate at the beginning of the term, it will not change. It won’t go up or down no matter what happens. This can be good, or it can be bad.

If you lock into a low mortgage rate right before interest rates jump up a few percentage points, then you’re laughing. Your interest rate will not change until your term ends. Then you can renegotiate with your lender based on the interest rates available at the time.

A variable mortgage rate means that your interest rate can go up or down depending on what the Prime Rate does. The prime interest rate of Canada, or Prime, is an interest rate which most of the major banks and financial institutions agree on, and they use it to determine variable rates for lots of types of loans, including variable-rate mortgages. Prime is determined by many economic factors, and it goes up and down many times throughout the year, but usually not drastically.

So, if you get a variable rate for your mortgage and the next day Prime plummets, then your mortgage rate will also drop. Your interest rate is entirely based on the prime interest rate, plus a little extra which is added on by your bank. But, the opposite could also happen, then you’re left with a high interest rate which you can only hope will go down the next time Prime is adjusted.

Open vs. closed mortgages, you don’t want to choose the wrong one and feel like you’ve messed up a major financial decision. Selecting the right one requires you to put in the legwork, ask questions, read up about what’s best given your financial situation.

So, what option is best for you? Look ahead a few years and ask yourself, “Do I expect to pay off my mortgage through selling my house or receiving a bunch of money in the next 10 years?”

If you anticipate inheriting a large sum of cash or you value the flexibility to potentially pay off your mortgage despite the higher interest rates, then choose an open mortgage.

If you answered “no” to the question above, then choose a closed mortgage which offers much lower interest rates and a stable payment structure with manageable monthly or biweekly payments.

Talk to a financial adviser or mortgage broker to figure out what’s best for you. They will be happy to help you understand what type of mortgage suits your situation.