A $35,000 Payout Penalty – A True Story…
I had an engineer contact me this week. On the exact day of his 1-year anniversary of starting his 5 year, fixed mortgage. At his own bank.
Precisely one year and 10 days before that call came in, he sat in front of me and guaranteed me, with clenched fist lightly pounding on my desk, that he would never leave this house; the dream house. He had his dream job as an engineering team leader at and an oil company in downtown Calgary.
His own bank – one of the Big-6 – had “dropped their pants to keep his business” and matched the rate that that we secured for him at a broker-only lender. I hear this all the time, and went on to explain there is much more to consider than just matching rates. The T & C’s – Terms and Conditions – of our deal were significantly better. Specifically due to the 500% to 800% lower payout penalties if the mortgage ever had to be closed down. After all he worked for an international oil company – and he could be transferred.
Other points for the advantages we reviewed were discounted as well:
· Always getting the best rates on renewal. (Banks know 86% of mortgage renewals will take the banks first offer they send out in the mail, so they always offer more than what the best rates are. The difference is pure profit and shareholder satisfaction.)
· Better repayment allowances
· And a “normal mortgage” registration at land titles, not a “collateral charge” which means you essentially are signing an I-O-U for everything you own as security for the home. This locks you into that same bank when your term is up.
So, today he called and said he is transferring to Texas.
He has to sell his home in a down market and will have a $35,000 payout penalty and realtor fees. He believes the $35,000 payoff penalty is worth it. Taking this punch to the wallet is the only thing between him and ensuring he still has a job more than 5 years from now.
$35,000 is about two years of discretionary spending income after you pay for your mortgage/rent, taxes, food, and car insurance. His penalty with the lender we had secured for him would have been about $7,000. Surprise, exactly 5 times less than what the Big-6 banks penalties are.
Quick Lesson/ Remember This: Your bank may be convenient, and they might match the best rates after you do the work to find a better deal at a broker but they will never change their Terms and Conditions for you. The Big-6 Banks write their details to favor themselves; and they make ~$1 Billion every 120 days. The terms at Broker Banks are as fair as you can get, the cost to you is usually $0, and you always get best rates, and way better service.
And you probably don’t get a $35,000 payout penalty either.
Mark Herman has his Master’s degree in Finance, is a 16-year broker at the brokerage that placed #1 in all of Canada for 6 years in a row. He has done way more than 5,000 mortgage applications. His work partner, Katie, was the 2017 Canadian Mortgage Broker of the Year out of all 14,000 of us, and 2018 President of the Alberta Mortgage Broker Association. They have worked together for 15 years and have not killed each other.
Use a mortgage broker for the biggest asset you can buy as brokers have your best interest in mind. As above, the bank does not look out for your best interests.
Mark Herman, Best Calgary Alberta Mortgage Broker
The Details: What you need to know about “discount mortgages.”
Grandma always said, “The price is the price, but the details are the details!”
There are discounted and restricted mortgage rates out there but they do not share the details of their disadvantages up front with you.
- Restricted or Limited Products / Bait & Switch
People will not even sign a 3 year cell- phone contact any more but they will try to save $15 a month on a restricted mortgage; which could cost them $30,000 as a payout penalty – BUYER BEWARE is what the regulators say.
Brokers often advertise these products to get you to call them and then they switch you into a “regular product” if you are lucky – or you get a “restricted product” that you probably do not want if you know all the details.
Discount mortgages called “limited” or “restricted” and often have:
- No rate holds
- Only monthly payments
- Only 1 statement a year
- No on-line administration = call centre only
- Only 5/5 extra repayment option – most broker lenders are 15/15 + 2x or 20/20
- The 1st number is the % of the original mortgage amount you can repay every year without penalty
- The 2nd number is the increase in monthly payment in % you can do without penalty.
- The 2x = double the payment!
- And they use the bank payout penalty calculations – as below in the Dirty Trick – AND in addition to that penalty, a 3% fee of the entire mortgage balance added to the penalty!
- This could easily end up at $30,000.
The other main “Details” that are not often disclosed are:
2.Collateral Charge
To keep you from leaving the bank for a lower rate when you renew later, the banks register your mortgage as a collateral charge – which is the same as an “I owe you” / IOU for the home. Other banks will not take another banks IOU for a mortgage; which means:
- A lawyer will have to re-register your mortgage at land titles; $1000.
- An appraisal is needed as the registration is usually for more than the value of the home; $450
- http://blog.markherman.ca/?s=collateral
- This means on renewal you will not get the best rates because it will cost you about $1500 – $2500 to move banks – even after your term is over.
3. The “Dirty Trick” of how the banks calculate your payout penalty
- If you have to move or break your mortgage the payout calculation is usually way lower at a broker-only bank than any of the big banks. The big banks all calcualte the penatly the same way now – to their advantage, not yours.
- http://blog.markherman.ca/2015/08/26/payout-penalties-how-the-big-5-banks-get-you/
To avoid these products, or to disucss what your personal situation may be, call us any time at 403-681-4376.
Mark Herman, Top Calgary, Alberta, mortgage broker for renewals, first time home buyers and home purchases.
Payout penalties – how the Big-5 banks get you
Below is a great example of how the Big-5 banks get you on a mortgage payout.
Always talk to a broker about your mortgage because Grandma used to say, “the rate is the rate, but the details are the details!”
Mark Herman
Top Alberta mortgage broker for home purchases and mortgage renewals
As you can see from the example below, the banks “discount rate recapture policy” can result in some pretty hefty added costs —$6,048 in the scenario here!
Example:
On July 31, 2011, you buy your first home and sign a five-year, fixed-term mortgage. As your family grows, you start looking at a bigger home, and after a few months of searching, you find the perfect one—on August 1, 2013.
Because of this unexpected upgrade, you now have to break your mortgage three years before it matures (you have $320,000 left on your mortgage). When you signed your current mortgage, you weren’t concerned about prepayment penalties, but as you can see below, prepayment penalties can have a significant financial impact on your bottom line.
| Your situation | |
|---|---|
| Mortgage date | July 21, 2011 |
| Date you break your mortgage | August 1, 2013 |
| How much you have left owing on your mortgage | $320, 000 |
| Your original mortgage term | 5 years |
| How many years left you have on your term | 3 years |
| Comparison | ||
|---|---|---|
| Mortgage breakage fee at the Big-5 banks | Mortgage breakage fee with Broker Banks |
|
| 5-year posted rate when you got your mortgage | 5.39% | Not applicable for the IRD calculation |
| Your actual contract rate | 4.00% | 4.00% |
| Discount | 1.39% | N/A |
| 3-year posted rate on August 1, 2013 (the day you break your mortgage) | 3.75% | 2.99% |
| IRD formula | (Contract rate – [Posted rate for remaining term – Discount from original mortgage]) x Principal outstanding x Remaining term | (Contract rate – Posted rate for remaining term) x Principal outstanding x Remaining term |
| IRD payment | $15,744 | $9,696 |
| Difference in fees | $6,048 | |
For a free mortgage check-up, or pre-approval, or compare what we can do vs. your bank, call Mark at 403-681-4376
• There is no cost to you for our services as the banks pay us for doing their work,
• You get our professional, un-biased advice & expertise on your mortgage,
• We answer our phones and emails, 7 days a week, from 9 – 9, including holidays,
• Your rate will be lower with us as we deal through “broker services” at the banks.
Bank Payout Penalties: The math behind “how they get you!”
This is a great article with the perfect math example.
Remember, there is also the catch of the collateral charge by the big banks that makes it cost about $2500 to leave your bank when your term is up.
Add these 2 things together and the better overall deals are from mortgage brokers.
Mark Herman, Top Calgary, Alberta Mortgage Broker for renewals and home purchases.
by: Angela Calla, AMP.
When choosing between mortgages, knowing how different lenders calculate penalties can be essential. The market and your needs easily shift during the term of your mortgage and the last thing you want is a painful penalty in order to get out early.
Penalty formulas differ radically, depending on the lender. A major bank, for example, will have a considerably higher penalty than a broker-only wholesale lender. Advice on how to avoid painful penalties is a key benefit of working with a mortgage broker.
You need to ask one important question right off the bat: What rates does the lender use to calculate its penalty? The actual discounted rates that people pay, or some artificially high posted rate? Hopefully the former.
Below is an example of how two lenders calculate the same “interest rate differential” penalty in different ways. Ask yourself, which one would save you the most money?
| Penalty #1 – Broker Lender | |
| Contract Rate (The rate you actually pay) | 4.19% |
| Current Rate (Today’s new rate, closest to your remaining term) | 3.09% |
| Differential (Contract Rate – Current Rate) | 1.10% |
| Remaining Balance | $229,000 |
| Remaining Months | 16 |
| Penalty Formula: Remaining Balance x Differential ÷ 12 x Remaining Months | $3,358.67 |
| TOTAL APPROXIMATE PENALTY | $3,358.67 |
| Penalty #2 – Major Bank | |
| Contract Rate (The rate you actually pay) | 4.19% |
| Current Posted Rate (Today’s new posted rate, closest to remaining term) | 3.39% |
| Original Posted Rate (At the time you got your mortgage) | 5.99% |
| Original Discount (That you received off the Original Posted Rate) | 1.80% |
| Differential (Contract Rate – (Current Posted Rate – Original Discount)) | 2.60% |
| Remaining Balance | $229,000 |
| Remaining Months | 16 |
| Penalty Formula: Remaining Balance x Differential ÷ 12 x Remaining Months | $7,938.67 |
| TOTAL APPROXIMATE PENALTY | $7,938.67 |
As you can see, there can be quite a difference in prepayment charges when you leave a lender early – over $4,500 in this example. And this is a modest hypothetical calculation. Bank discounts today are on the order of 2.00 percentage points off posted, instead of the 1.80 I’ve used here.
Some lenders will even charge an abnormally high penalty (like 3% of principal) despite you being close to the end of your mortgage term. They do this as a retention tool to keep you from leaving. Others will charge a “reinvestment fee” on top of the penalty, tacking on another $100 to $500 in expenses.
In short, penalties can be thousands—or even tens of thousands—higher depending on the lender’s specific calculation formula, mortgage amount, rates and time remaining until maturity. Extreme penalties are not only more expensive, they can even keep borrowers from moving because the amount eats into the money they’ve got for a down payment and closing costs.
Worse yet, some lenders have a “sale only” clause in their mortgages, meaning you can’t even leave them unless you sell the home. If you think, “Oh, that’s no big deal. I don’t plan on selling,” think again. Throughout every path in life, there are moving parts and uncertainties. When you get married, do you plan on divorcing? Likely not. Did you predict the company you were with for 20 years could downsize, or your pension would be reduced or cut? Can you guarantee your health will never throw you a curve ball?
We all want to believe that none of the above scenarios will come to pass, but they can and do. And when they do, what a relief it is to have options.
And last but not least, there is the refinance consideration. If interest rates fall 0.5-0.8%, (which may seem unlikely but is certainly a possibility) there may be opportunities to lower your borrowing costs. But you can’t do that unless you’ve got a low-cost way to renegotiate your existing contract. And as we’ve seen above, that cost is not based on just your interest rate alone.
Another example: When the rates are the same at the bank and the broker = broker deal is significantly better.
Here is what happens when the Current Posted Rate (Major Banks) = the Current Rate (Broker Lender) at 3.09%
Differential (Contract Rate – (Current Posted Rate – Original Discount)) = 2.90%
==> (4.19% – (3.09% – 1.80%)) = 2.90%
==> (4.19% – 1.29%) = 2.90%
Therefore:
Penalty Formula: Remaining Balance x Differential ÷ 12 x Remaining Months
==> $229,000 x 2.90% / 12 * 16
==> $8854.67
Moral of the story – talk to a broker and understand your penalty calculations.
You can talk to your major bank as well, although I don’t think they can spin the penalty calculation conversation into a favourable one for themselves.