Buying your first home: Three steps to successful mortgage shopping

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Step 1: Know what you need and want in a mortgage

Mortgage types: open or closed

Most lenders offer two types of mortgages: open and closed.

The main difference between open and closed mortgages is the amount of flexibility you have in making extra payments on the principal or in paying off the mortgage completely. These types of extra payments are called prepayments.

Open mortgages allow you to make prepayments whenever you want. Closed mortgages often include prepayment privileges, which give you the option to make prepayments up to a certain amount.

By making prepayments, you can save thousands of dollars in interest charges by paying down your mortgage faster.

However, if you have a closed mortgage and want to make a prepayment that is more than your privileges allow, your lender will generally require you to pay a prepayment charge. These charges can cost thousands of dollars, so it is important to know when they can apply and how they are calculated.

For terms longer than five years: if you want to break your mortgage and at least five years have passed, your lender is only allowed to charge three months’ interest on the remaining mortgage balance. This may be less costly than other methods of calculating a prepayment charge.

When you shop around for a mortgage, look carefully at the prepayment privileges and charges as you consider your options.

For more information, see Mortgage prepayment: Know your options.

Open mortgages

  • You can make prepayments at any time during the term, or even pay the mortgage off completely before the end of the term, without having to pay a prepayment charge.
  • The interest rate on an open mortgage is usually higher than on a closed mortgage with a comparable term length.
  • An open mortgage may be a good choice if:
    • you plan to sell your home soon
    • you intend to make large prepayments that would be more than the amount you would be allowed to prepay with a closed mortgage term.

Closed mortgages

  • The interest rate on a closed mortgage is usually lower than on an open mortgage with a comparable term length.
  • Your mortgage contract will usually include prepayment privileges, which vary from lender to lender. For example, one lender might let you make a lump sum payment equal to 20% of the original mortgage loan every year, while another might only let you pay down 10% every year. A lender might also allow you to increase the amount of your regular payments.
  • If you want to change your mortgage agreement during the term (for example, to take advantage of lower interest rates), you will usually have to pay a prepayment charge to break your mortgage agreement.
  • A closed mortgage may be a good choice if:
    • the prepayment privileges provide enough flexibility for the prepayments you expect to make
    • you are planning to stay in your home for the remainder of the term of your loan.
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