The Cost of Breaking Off Your Mortgage Contract %

The Cost of Breaking Off Your Mortgage Contract

A mortgage contract is a contract drawn between you and the bank. This is legally binding and includes its terms, conditions, and stipulations both you and the bank agreed on.

One of the conditions outlined therein is shouldering penalties for abruptly breaking off or exiting your payment schedule before your agreed current mortgage term is over.

If this eventuality occurs then you are responsible for the payment of penalties incurred in the breaking off of your mortgage contract.

Failing to comply with the stipulations outlined in your mortgage agreement can result in inheriting a bad credit home mortgage status.

Prepayment Explained

A prepayment penalty happens when the mortgagee breaks off from a mortgage contract. When this happens, clauses pertaining to payment of penalties are enforceable immediately to protect the mortgagee from losses.

It is mandatory that you settle the penalty otherwise you end up facing legal suits or even jail time. This is considered breach of contract and immediate legal class action is filed against you (the mortgagor) by the aggrieved party (the mortgagee).

Reasons for Mortgage Break Off

The following are some of the reasons most people are breaking off from their mortgage with the bank:

• Their financial situation changed (i.e. loss of job or income reduction)
• Interest rates decreased in value
• Their homes were no longer satisfying
• They are planning to move out and sell the house
• They are planning to buy a new house

This is a serious offence because it compromises the bond of trust between the mortgagor and the mortgagee. It puts a strain on their relationship making any future endeavours with each other moot.

How Much Will it Cost You to Break Off Your Mortgage?

The prepayment penalty differs depending on your bank or lender. We will provide you with an idea on how much they can charge you for breaching your contract.

Penalty cost depends either on a fixed-rate mortgage or variable-rate mortgage. A fixed-rate mortgage carries a heftier penalty than a variable-rate mortgage.

The former will have you paying whichever is higher between the three-month interest and the interest rate differential (IRD) while the latter costs you a three-month interest rate based on your current balance.

This is not a favourable spot to find yourself into because your bank or lender has the right to flag you as delinquent.

Any attempt to secure a loan from another bank or lender is no longer feasible because no one will allow you to get a mortgage with a bad credit rating .

For simplicity, your bank will charge you any one of these fees:

• Three-month Interest
• Interest Rate Differential or IRD

Methods in Computing Break Off Mortgage Penalty Explained

Method 1: Three-month Interest

This is exactly what it is. You have to pay a three-month interest penalty on your current mortgage rate. Some banks, on the other hand, use prime rates instead.

In this example, let us assume you have $300,000.00 remaining balance on your current mortgage with an interest rate of 3.16%. Let us compute how much your breaking off penalty is.

We break down your information as follows:

• Remaining mortgage balance: $300,000
• Length of term: 5 years
• Type of mortgage: Variable mortgage
• Your current mortgage interest rate: 3.16%

Your estimated mortgage break off penalty is: $2,370.00

Computation is shown below with explanation:

We multiple your current rate (we used 3.16% interest here as an example) with the remaining balance of your current mortgage ( $300,000.00) and multiply the product this time with 0.25 (this value represents 3/12 for the three-month period of the year).

This is how banks calculate the three-month interest:

(3.16%x$300,000×0.25% = mortgage break off penalty)

(NOTE: In this example, you have a variable-rate mortgage: hence, the bank will charge you a three-month interest penalty amounting to $2,370.00. On the other hand, if you have a fixed-rate mortgage, you will pay whichever is higher between the three-month interest and the interest rate differential (IRD).)

Method 2: Interest Rate Differential or IRD

If you are breaking off from a fixed-rate mortgage, penalties are calculated based on whichever is higher– three-month interest or interest rate differential (IRD). This method is more difficult to calculate because of the complexity it carries.

Here is an example of how IRD is calculated. Keep in mind that these calculations vary from bank to bank.

We break down your information as follows:

• Date of acquisition of your current mortgage: January 10, 2017
• Remaining mortgage balance: $300,000.00
• Length of term: 5 years
• Type of mortgage: Fixed-rate mortgage
• Your current mortgage interest rate: 3.36 % (the posted rate at the original mortgage date is 5.36%)
• Discount rate received on your existing mortgage: 2%

Your estimated mortgage break off penalty is: $13,410.00

Computation is shown below with explanation:

Assuming you have 3 years’ worth of balance left on your mortgage. The posted rate on a 3-year term sits at 3.49%. The bank will deduct your discount rate from your posted 3-year term rate giving you 1.49%.

(3.36%-1.87% =1.49% IRD difference x 3 years=4.47% of your mortgage balance)

(NOTE: In this example, you have a fixed-rate mortgage. It is quite complicated and tricky to calculate; hence, you need the help of a mortgage broker to do this for you.)

Does having a negative credit rating impact home mortgage application?

It is impossible to find a bank or a lender that will allow you to secure a mortgage with a negative credit rating. You can find one but this often comes with a higher interest rate that places borrowers at risk of defaulting payments.

Getting a mortgage with a poor credit score means you qualify for a mortgage deal that is difficult to pay back. It is smarter to wait until your credit score improves before you begin securing a mortgage contract.

Final Word

Breaking off your mortgage is not advisable given the foregoing explanation. It is risky and will not, in any way, improve your credit score to win you a deal at another mortgage contract.

This compromises the bond of trust between you and your bank or lender and forces you to pay hefty penalty fees that are completely unnecessary in the first place.

Choose a reputable mortgage company and a good credit score fixer to increase your chances of obtaining a favourable and affordable mortgage deal.

We are your specialists in mortgaging and in credit score restructuring for 9 years running. Our office is located in Canada and we offer financial advice as well as mortgage services.

Please feel free to contact us at +1 (416) 825-0142 or send an email to [email protected].

We are more than happy to assist in making your mortgages easier to manage.

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