As part of the mortgage process you’re going to need to choose between a closed mortgage and an open mortgage. Open mortgages generally provide more flexibility but general mortgages generally have better interest rate. Deciding on whether to get an open or closed mortgage is a key choice.
In short, the primary differentiator between the two options is all about whether you think you will be able to pay-off your mortgage through the term or not. We have gone into a little more details about both options for you.
This is a mortgage that can be paid off in full, renegotiated or refinanced at any point in time. There are no restrictions at all with regards to pre-payment. An open mortgage does carry a term, but the lender does is not obliged to keep this until it matures. An open mortgage might carry slightly higher rates in comparison with closed mortgages; this is mostly due to the flexibility they offer.
As most first-time home buyers opt for a 5 year term for stability, it is very unlikely they will have more than the 10% to 20% allowed each year by lenders to pay off a mortgage in full. You also pay a premium to have the ability to pay a mortgage off in full at anytime without penalty in an open term.
Because of this, open mortgages are not taken out as frequently as closed mortgages. They also are likely only to be available for terms of five years and under. Looking into Open terms doesn’t make sense for most people.
The Closed Mortgage Option
This type of mortgage is one that cannot be refinanced, paid in full or re-negotiated before the term is over. If you need to do this, there are penalties in place. If you choose to go for a closed mortgage, you are committing to stay within the conditions that are set, for the entire term. It is possible to obtain a degree of flexibility with regards to the monthly payments. The lender can increase the monthly amounts that you pay by a specific percentage, and you are also able to pre-pay an annual amount as well. This is normally worked out a percentage of the overall amount of the mortgage. So if you have a mortgage of $100,000, with a $750 payment each month, the terms permit a 100% increase in the monthly payments and a 10% pre-payment annually; this means that you can increase your monthly payments up to $1500 and also make a one-off payment of $10,000 in that year. This is just an example; each lender will offer different percentages and different terms. If you wish to renegotiate or to refinance the mortgage before the term is up, there can be different penalty amounts in place.
So, which is better? Open, or closed?
If your personal circumstances are not set to change over the term of the mortgage, then a closed mortgage might be the better option. On the other hand, if you are planning on selling your home, pay off a large lump sum, or perhaps you might be needing to refinance to for a renovation before your term is up. Then the flexibility of an open mortgage should be seriously considered as this will allow you to do any of those things, without incurring penalties.
So, If you choose to go with an open mortgage, you might pay a higher rate of interest. However, you have the option to pay your mortgage in full, at any time. Closed mortgages, on the other hand, are a little more restrictive. If you want to pay your mortgage back in full, there are often penalties, and there are limits on the amount you are able to pay back over a specified period of time.
If it is likely that you will get the extra money together to allow you to pay off your mortgage, then the flexibility of an open mortgage would probably be a better option. Penalties may vary from one lender to another, as will the interest rates so it’s always best to do careful research and think about your potential future circumstances as realistically as possible.