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Published August 3, 2021

What Happens If You Break Your Mortgage Contract?

Dropping interest rates, the need for more cash or changes in your personal life might require you to break your mortgage. There are penalties, but sometimes it may actually save you money to make a change.

If you’re a homeowner and you’re thinking about selling your home, or you want to refinance for better mortgage rates, then you’ll likely need to break your mortgage. Unfortunately, you’ll have to pay a penalty to do so, but it may actually benefit you. Here’s what you need to know.

What it means to break your mortgage contract

When you sign a mortgage contract, you’re agreeing to a strict payment schedule for a set term. If you’re looking to change those terms early or to get out of your contract completely, then you’re breaking your mortgage. While breaking your mortgage does come with fees, it might make sense depending on your situation.

» KNOW THE DIFFERENCE: Between a mortgage term and an amortization period

Reasons people break a mortgage contract

When homeowners get a mortgage, they don’t usually plan to break the contract. That said, a lot can happen during the term of your contract, which would require you to break it. Sometimes a life event occurs. At other times, it may actually save you money to make a change.

Some of the main reasons why you’d want to break your mortgage contract include:

  • Interest rates have dropped. Getting a new mortgage could lower your overall costs even when factoring in the penalty.
  • You want to move. For those looking to upgrade or move, a new mortgage would likely be needed.
  • Your family situation has changed. If you have kids or experience a breakup, you may need to sell or get a new mortgage.
  • Your financial situation. Some people choose to refinance with a longer amortization if their finances have taken a hit. Alternatively, you may decide to pay off your mortgage early.
  • Your personal situation has changed. Perhaps you need to relocate to another country for work or no longer want to own. That would require you to sell and break your mortgage contract.

» MORE: Should you wait until mortgage renewal?

The cost to break your mortgage contract

The penalty for breaking your mortgage depends on what type of mortgage you have and how much you still owe.

If you have an open mortgage, then there’s no cost to break your mortgage. That said, most people have a closed mortgage, so you will have to pay a fee.

The formula used is based on whether you have a fixed-rate or variable-rate mortgage.

  • Fixed-rate mortgages typically use an interest rate differential (IRD) to calculate the penalty. The formula used is the posted rates when you signed your mortgage minus the current mortgage rates. That number is then multiplied by your remaining balance and divided by 12. You then need to multiply it by the months remaining on your term.
  • Variable-rate mortgages have a straightforward penalty of three months’ interest.

Regardless of whether you have a fixed- or variable-rate mortgage, there may be additional costs to factor in, such as administration, appraisal and discharge fees. If your lender offered you cash back, you might also need to repay a portion of that.

Many online calculators can estimate what your penalty will be. Alternatively, you could contact your lender as they’ll be able to give you an exact number.

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Pros and cons of breaking your mortgage

Everyone will have different reasoning for deciding to break their mortgage, so you need to look at your individual situation before making a decision. That said, there are some general pros and cons to think about before you go through with it.

Pros

  • You’ll pay less interest over the term
  • Lower monthly carrying costs
  • You could pay off your mortgage faster if you kept your payments the same
  • Locking in lower rates can help you budget

Cons

  • You’ll need to pay penalty fees
  • You’ll need to repay a percentage of any cash back received
  • You might end up paying more once your factor in any fees paid
  • New mortgages require you to pass the stress test

Alternatives to breaking your mortgage

Unless you have an open mortgage, it’s nearly impossible to avoid any fees associated with breaking your mortgage. That said, depending on why you’re breaking your mortgage, you may have some options.

  • Blend and extend. Some lenders will allow you to blend your existing fixed-rate mortgage with current rates if you extend your term.
  • Port your mortgage. This is where you take your existing contract with all the terms and port it to another property.

Once you’ve decided that breaking your mortgage is the right thing to do, you should contact your lender to find out what the fees are and what the process is. If you’re moving to a new lender, you’ll want to be in touch with them to ensure everything is handed off correctly.

About the Author

Barry Choi

Barry Choi is a personal finance and travel expert. His website moneywehave.com is one of Canada's most trusted sites when it comes to all things related to money and travel.

DIVE EVEN DEEPER

How Porting or Transferring Your Mortgage Works

Porting a mortgage means you are transferring your existing mortgage to a different property when you sell one home and buy another.

How to Renew Your Mortgage

Mortgage renewal is a chance to negotiate the your contract at the end of a mortgage term. You can renew with the same or a new lender.

How to Refinance Your Mortgage in Canada

Refinancing a mortgage means breaking your current contract to negotiate for a new one with the same or a new lender to get better rates.

Amortization Period Vs. Mortgage Term

An amortization period is the time it takes to repay a loan, such as 25 years. A mortgage term is a lender contract, typically five years.
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