Product choice
Fixed or variable is the smaller decision. The term and the penalty clause are the bigger ones.
Most Canadians agonise over fixed versus variable and then sign a five-year term with a penalty clause they have never read. Over a full term, the exit terms and the prepayment privileges frequently matter more in dollars than the rate difference that dominated the conversation.
Executive summary
Fixed, variable and adjustable — the actual differences
| Product | Rate behaviour | Payment behaviour | Suits |
|---|---|---|---|
| Fixed rate | Locked for the term | Unchanged for the term | Borrowers with tight cash flow, or who value certainty over expected cost. |
| Variable, adjustable payment | Moves with prime | Moves with prime | Borrowers with buffer in the budget who want every rate cut to reach them immediately. |
| Variable, fixed payment | Moves with prime | Fixed; the split between interest and principal shifts | Borrowers wanting a stable payment, provided they monitor the trigger point. |
The fixed-payment variable carries a specific risk worth naming: if rates rise far enough, the payment stops covering the interest and the mortgage reaches its trigger rate, at which point the lender will require a higher payment or a lump sum. Ask for your trigger rate in writing at the outset.
Choosing a term length
A term is how long the contract runs; the amortization is how long the debt takes to pay off. A 25-year amortization with a five-year term means you renegotiate five years in with twenty years still to run. The right term is mostly a question of how likely your life is to change before it ends.
| Term | Trade-off | Consider when |
|---|---|---|
| 1–2 years | Usually a higher rate; frequent renegotiation and renewal exposure | You expect to sell, move or refinance soon, or you want to revisit pricing quickly. |
| 3 years | A middle position on both rate and commitment | Plans are firm for the near term but uncertain beyond it. |
| 5 years | Often competitively priced; the longest common exposure to IRD penalties | The property and the household are stable and you value payment certainty. |
| Variable, any term | Rate risk in exchange for typically cheaper exit terms | A mid-term change is plausible, or you can absorb payment increases. |
The penalty maths, in full
Three months' interest. Balance × annual rate × 3 ÷ 12. Simple, and the usual outcome on a variable mortgage.
Interest rate differential, in the common form. Balance × (your rate − comparison rate) × months remaining ÷ 12. Lenders differ in which comparison rate they use, and some apply the discount you originally received to the comparison rate, which increases the penalty. Your mortgage contract governs.
The direction of rates decides which formula bites. When current rates are higher than your contract rate, the differential is small or nil and three months' interest applies. When current rates are lower — the situation that makes breaking attractive — the differential can be very large. That is the trap: the moment breaking looks worthwhile is exactly the moment the penalty peaks.
Worked example: the same break, two products
Prepayment privileges: the feature people undervalue
| Feature | Common range | Why it matters |
|---|---|---|
| Annual lump-sum privilege | 10%–20% of the original principal each year | Every dollar goes to principal, shortening the amortization directly. |
| Payment increase privilege | 10%–20% increase per year | A permanent way to shorten amortization without a lump sum. |
| Double-up payments | Offered on many products | Useful for irregular income — pay extra when cash allows. |
| Accelerated bi-weekly frequency | Widely available | Produces the equivalent of one extra monthly payment a year. |
| Portability | Available on many, restricted on some | Carries the rate and avoids a penalty when moving, within a limited window. |
| Blend and extend | Lender-specific | Changes the rate mid-term without a full break, at a blended rate. |
Using the prepayment privilege immediately before breaking reduces the balance the penalty is calculated on at some lenders. Whether it is permitted in that sequence is a contract question — ask before you transact, not after.
Which product fits which borrower
| Circumstance | Usually points to | Reason |
|---|---|---|
| First purchase, budget fully stretched | Fixed, 3 or 5 year | Payment certainty protects a thin buffer more than expected savings do. |
| Likely to move within the term | Variable, or a shorter fixed term | Cheaper exit terms usually outweigh a small rate advantage. |
| Strong cash buffer and rate-tolerant | Variable | Cuts reach you immediately and the penalty exposure stays small. |
| Self-employed with lumpy income | Whatever carries the best prepayment privileges | The ability to pay down in good years matters more than the headline rate. |
| Renewing with plans to refinance soon | Short term or variable | Avoids paying a large differential to unwind a long fixed term. |
Current indicative pricing context sits on the Canadian mortgage rates page, and the policy-rate record is on the Bank of Canada decisions page.
Failure modes and recovery
| Mistake | Recovery action |
|---|---|
| Chose a five-year fixed, then had to move in year two | Check portability first; if the mortgage is portable within the lender's window, the penalty may be avoided entirely. |
| Penalty quote is far higher than expected | Request the lender's written calculation and the comparison rate used, then check it against your contract's formula. |
| Fixed-payment variable hit its trigger rate | Increase the payment voluntarily before the lender requires it, or apply a lump sum to restore the amortization. |
| Took the lowest rate on a no-frills product | Confirm the restrictions before signing next time — restricted products can limit refinancing to the same lender and remove prepayment flexibility. |
| Rate dropped shortly after locking a fixed term | Ask about blend-and-extend rather than breaking; blending avoids a full differential penalty at many lenders. |
Written and reviewed by the Canadian Mortgage Compass Editorial Desk. This page is general information for Canadian readers and is not mortgage, legal, tax, or financial advice, and not an offer of credit. Rules, rates, and lender policies change; confirm your own situation with a licensed mortgage professional in your province. Editorial policy · Corrections