Personalities of Your Mortgage- Blend & Extend
Asking the right questions is an important part of the mortgage process, it allows you to learn and understand which mortgage product is right for your situation! An important aspect of a mortgage is its flexibility and terms, such as how the penalty is calculated if you break your mortgage. Keep in mind that statistically, 70% (7 out of 10 people) of mortgages are broken within the first 3 years.
This could be due to a variety of reasons; in our previous blog on Personalities of Your Mortgage, we went over many personalities and now are going to focus on the Blend & Extend Products and avoiding the “pre-payment penalty”.
There is one popular and “under-utilized” option you can access to refinance and access your equity and/or get a lower mortgage rate, without having to pay the prepayment penalty. This product is called a Blend & Extend (Blended Mortgage) mortgage.
A Blend & Extend Mortgage is when you combine the mortgage rate from an existing mortgage with the mortgage rate from a new mortgage and blend them into a new rate that is somewhere in-between the two. Because you’re essentially “keeping” your existing mortgage rate in this new blended rate, rather than breaking your mortgage term altogether, you can avoid the prepayment penalty that comes with a typical refinance. With Blend & Extend mortgage, you wouldn’t get the absolute best mortgage rate on the market, but you also save your money on the penalty payment.
You could break your mortgage if you wanted to access a lump sum of equity and/or obtain a lower rate in a new mortgage. Breaking your mortgage means you’re paying off your current loan and setting up finance for a new mortgage. Doing this will result in a pre-payment penalty – and, depending on your mortgage rate and how much time is left in your mortgage term, it can add up quickly. If you had a fixed-rate mortgage, your penalty would be the greater of three months’ interest or the interest rate differential (IRD). If you had a variable rate mortgage, your penalty would be three months’ interest. If the potential savings outweigh the penalty, or if the value to you in withdrawing that money is high, it might be worth paying the fee. However, there are still other options to consider.
Let’s say you owe $250,000 on your mortgage, and you have two years remaining on a 5-year term with a fixed rate of 4.50%. Through a refinance, you could take on a new 5-year fixed term at just 3.39%. However, to get that rate, you’d have to pay a prepayment penalty of $10,325.
To avoid that fee, you could instead blend your existing mortgage rate with the new mortgage rate, for a new 5-year fixed term at a rate somewhere between 3.39% and 4.50%. So, not only have you “blended” the two rates, you’ve also avoided having to refinance your mortgage and pay a penalty to do so. See below for example:
4.50% existing rate → 3.83% blended rate ← 3.39% new 5-yr rate
If you had also decided to access some equity in this refinance, your blended rate would be even more weighted against current market rates, because your total mortgage amount, monthly payment and overall interest would’ve gone up, giving the lender more money from you in other ways.
