Trigger Unhappy: Understanding Trigger Rates

October 18, 2022

Key points:

  • With some variable-rate products, a borrower’s monthly payment will reach a point where it no longer covers the interest on their mortgage due to interest rate hikes. This is the trigger point.
  • Borrowers in this situation can usually refinance, increase their monthly payments, or make a lump sum payment.
  • More rate hikes are likely on the way before they will drop.

Understanding trigger rates, interest rates, and variable-rate products

In this video, I joined Mississauga realtor Steven Ho to talk about trigger rates. This term has been floating around for a while now, but there’s sometimes some confusion over what it means for borrowers. Have a listen for all the details you need to know as a borrower!

Steven Ho’s contact information:

Website: mistersauga.ca

Email: steven@mistersauga.ca

Don’t feel like watching? Find the full transcript below!

Steven: [00:00:01] All right. Today, I’m chatting with Chris Molder from Tridac Mortgages in Toronto. And we have a hot buzz word recently. It’s called trigger rates. So I’m experiencing that with my mortgage. And I’m sure with all these interest rate increases, many other people are experiencing it, too. And it’s a scary word right now because we don’t know what it means. And I mean, some of us might. But how does this, first of all first of all, can you give us a quick breakdown of what trigger rates are and how it’s affecting people?

Trigger rates and variable rate mortgages

Chris: [00:00:43] Yeah, absolutely, Steven. You know, we we have this colloquial term to be trigger happy. We’re going to call this trigger unhappy. And so here’s here’s the breakdown. And there’s some confusion around this. There are two major types of variable rate mortgages, and depending on which mortgage you have, we actually one is called an adjustable rate mortgage and the other is a variable rate mortgage to be technical. But most consumers just categorize them both as the umbrella term variable. An adjustable rate mortgage has a payment that automatically fluctuates or adjusts with changes to the prime rate, both up and down. Okay. So a lot of borrowers have a mortgage like this, for example, myself, and it floats up and down, which sucks right now because as the prime rate goes up, my payments have been keeping up lock step. So and what that ultimately achieves is that I am staying on track to pay my mortgage off after the 25 year amortization or 30 year amortization, whatever the original amortization was. So you stay on track to pay the mortgage. The other type of borrower has a variable rate mortgage. And what happens is that the original payment that you are making when you get the mortgage on day one doesn’t fluctuate automatically as the prime rate changes up or down. So what does that mean? That means that as the prime rate goes up, the amount that you pay between principal and interest is constantly adjusting and you’re paying less and less of your principal off each month, which is essentially extending your amortization. It’s taking longer to pay off your mortgage.

Steven: [00:02:35] Right. Right.

Three options for borrowers at their trigger point

Chris: [00:02:36] So there’s this temptation for people to talk, and, you know, you may feel this way yourself. You and I are at different ends of the spectrum because it sounds like you have a variable. I have an adjustable. I’ve been affected greatly with my cash flow because each month it changes. You’ve been feeling pretty good because up until this point, your payment hasn’t changed And, oh, it’s not so bad that the Bank of Canada has been changing the prime rate. Piece of cake. Right. But but specifically, there is a point where the amount that you’re paying on your mortgage on a monthly basis is not sufficient to cover the interest. And it’s at that point, that is what we call the trigger point, which then requires some change to the mortgage for you to continue. And that change is communicated to you by your lender. They will give you generally three different options to consider at that time. Option number one is they will urge you to convert from variable to fixed so that your mortgage now adjusts, the payment adjusts and now you’re you’re doing an amortized mortgage based on a fixed rate. Option number two is to increase your regular monthly payments. So now you’re paying principal and interest. And then option number three is that you make a lump sum payment to the to the principal balance. So that way you can maintain your current payment so that it represents enough to pay both both principal and interest.

Steven: [00:04:19] Is that considered part of the pre payment that you’re allotted every year, or?

Chris: [00:04:25] Yes, it would be, yeah.

Steven: [00:04:27] Okay, cool.

Chris: [00:04:27] Yeah, it would be part of the allotted. And most mortgages have between a 15% and 20% lump sum pre payment privilege.

Steven: [00:04:36] Gotcha. So with, I’ve noticed that my my lender asked me, oh you need to make a decision of what you want to do. So we just increased our monthly payment by a couple hundred bucks to stay on top of it. But I also want to make sure that I think I pay more of the principal instead of just covering the minimum. Because if I don’t increase it enough, that mortgage, could it be stretched more than 30 years?

What’s happening with amortization schedules?

Chris: [00:05:11] I was going to I was going to make the comment as you’re as you’re saying that. I’ve been speaking to clients and they’ve been sharing with me the letters that they got because a lot of homebuyers got their variable rate mortgages in the last 12 to 24 months. It was a very popular product based on what we were expecting in the future, which definitely wasn’t the reality of today. But they would have started with a 30 year amortization and a variable rate mortgage. If it was a variable rate, that didn’t change. They’re getting letters communicating that their current outstanding amortization is now on track for 50 years, and that is that is massive. And that’s a little bit problematic because first of all, it’s costing you, if it’s taking 50 years to pay off the mortgage, that’s what, 20 years more of interest payments. So now your interest costs have gone up dramatically. So that’s that’s not a good thing. You don’t want to be extending too far. And then beyond that, when your mortgage comes up for maturity, because every five years your mortgage comes up for renewal, which is an opportunity to shop it around, reset. And one of the options that you have is to to transfer the mortgage from one lender to the next. But in order for any lender to look at your mortgage, you have to be on track for less than 30 years of amortization. So if you’re coming to them with a 45 year amortization outstanding, no lender is going to pick up your mortgage and you’re going to be forced to refinance at that time to put you back on track for a 30 year or 25 year amortization. This is the first time in very in medium term memory that this has ever occurred at this level. This is new for all of us. So it’ll be interesting to see what happens.

Steven: [00:07:06] Yeah. So I can only imagine that with all these interest rate increases, is there going to be more distressed sellers because people can’t afford their mortgages anymore because interest rates have gone up like 1200 percent over the last six months? And it doesn’t sound like a lot in terms of a quarter point to three and a quarter points. But then you add the stress test and all that kind of stuff, it it every dollar is a lot more expensive. Not to mention our daily living. Our cost has gone up as well. So the cost for housing is definitely going.

More interest rate hikes are on the way

Chris: [00:07:50] Yeah, big time. Big time. Steven I think one of the things that that we’ve seen is I mean when last year when a variable rate was one and a half percent for every $1 you borrowed, you’re paying about $0.25 to $0.30 in interest. So it was like it was free money. It was, it was, you know, was very cheap, very inexpensive. Today, for every dollar you borrow, you’re paying almost $2. So 2 to 1 in interest. So if you’re paying $1,000 principal, it’s $2,000 in interest currently. And and I think there will be, the most recent Bank of Canada increase was a painful one. And it was the first time you hear the Bank of Canada talking about the restrictive range. And the restrictive range is this concept that says up until a certain point we view interest rates to be balanced in the market where it’s not it’s not impacting the market positively or negatively. It’s neutral, so to speak. And then once we get to the restrictive range, it’s designed to really make it painful for businesses, households to borrow money. And that’s of course, the whole purpose of this is to make it painful so that we don’t spend money, which lowers demand, which will rebalance the market and hopefully bring down inflation sooner than later.

Steven: [00:09:20] Right. Right. So there’s so you’re saying there’s more pain to come from the sound of it.

Chris: [00:09:29] At the time of this recording? Yes, I think we have to anticipate anywhere between half a percent to 1% more of pain and, yeah, which is terrible. Ultimately, on the other side of this, I kind of equate it to to this image of us being stranded in the desert right now. It’s very painful. It’s it’s a gruel. There is a green, fertile valley in the future. We’ll get there. Rates will come down, you know, as we hit recession rates will come down. Historically, we’ve seen this. But to get to that green valley, there’s still one more peak of of mountain. There’s still a mountain range to come. And I think at this point, it’s very difficult to predict how long or how far that mountain range is, how long it’s going to take to get to that promised land, so to speak. And so there’s some pain that is going to be endured. And so for borrowers that are in a variable rate mortgage, they now have to evaluate their own personal household ability to withstand increasing payments to get to that promised land. Or do they stop the pain now and take lock in a payment, which is not great. You know, you have a bad choice and a worse choice, so you can lock into a fixed rate right now. The payments are still going to be high because five year fixed rates are in and around five and one half percent. It’s very high, elevated, but at least you protect yourself from further increases in the future. And whether there’s at this point, it’s not possible to give generic advice as to what’s best. It really is what’s best for each specific household and how they can endure and survive. The next 12 to 24 months is probably the timeline that we’re looking at before inflation peaks and we hit recession. Now there are some positive signs that we are getting maybe close to that point. Here in Canada, we’ve had two back to back months of declining or diminishing inflation. In the UK. It’s generally not positive that we have a recession, but the recession does signal that we’re headed in the right direction. So in the UK there’s this morning there were some some articles highlighting that it’s likely at this point that the UK is in a recession. And so all of this, if you have a recession without inflation, interest rates will start to trend back down. And that’s what we’re waiting for and expecting.

Need more help or information?

Steven: [00:12:18] Yeah, we’re all holding our breath and waiting for that time, but until then, we’ll have another conversation. Thanks for joining us. And yeah, if anyone has any questions about mortgages, you can reach out to Chris at any time at Tridac Mortgages.

Chris: [00:12:37] That’s right, Tridac mortgage dot com, or you can look up my name Chris Molder, M-O-L-D-E-R on Google, you’ll find plenty.

Steven: [00:12:46] Awesome. Thanks.

You can book a call directly into my calendar below, or get in touch with me here.