Trigger Rates Explained
By Emily Southey | 12 minute read
Understanding trigger rates is crucial for any Canadian homeowner with a variable-rate mortgage. Since your trigger rate can result in an increase to your monthly mortgage payment, you must be aware of what trigger rates are, how to calculate yours, and what happens when you reach your trigger point.
What Is a Trigger Rate?
A trigger rate is the point when your monthly mortgage payment no longer covers all of the interest you have accrued since your last payment. In other words, a trigger rate means that the borrower is no longer paying off any principal on their loan. Instead, the entire payment is going toward the interest owed.
When a borrower reaches their trigger rate, it “triggers” an increase to their balance owing. As your regular mortgage payment is not high enough to pay for your loan, it is only covering your interest. Any amount still owing after the interest has been paid off is referred to as “deferred interest,” and it is added to your balance to be paid in the future. For this reason, reaching your trigger rate means you have stopped paying off your mortgage and have started borrowing more money from your lender.
What Types of Mortgages Are Impacted by Trigger Rates?
Not all mortgages are impacted by trigger rates. In fact, fixed-rate mortgages are not. Rather, it is variable-rate mortgages that are affected by trigger rates. However, it is worth noting that there are two types of variable-rate mortgages in Canada. The first are those with regular or static monthly payments (for example, payments that will only change if the borrower reaches their trigger rate), and the second are those with floating payments (payments that change automatically when prime rates fluctuate). As variable-rate mortgages with floating payments are less common in Canada, most Canadian borrowers with variable-rate mortgages will only deal with a change to their payment schedule if they reach their trigger rate. We provide further details on the two types of variable-rate mortgages below.
“A trigger rate means that the borrower is no longer paying off any principal on their loan. Instead, the entire payment is going toward the interest owed.”
Variable Mortgage Trigger Rate
In Canada, most major mortgage lenders offer two types of variable-rate mortgages: those with fixed or static payments and those with variable or floating payments. When it comes to variable-rate mortgages with variable payments, the amount of the regular payments changes along with the prime interest rate (that is, if the prime rate goes up, the mortgage payment increases to pay for the increase in interest). Meanwhile, for a variable-rate mortgage with fixed payments, the scheduled payments are calculated at the start of the contract and remain the same throughout the entire term of the agreement. That said, while the total payment amount stays the same, the interest may rise if the prime rate rises, with the residual amount going toward the principal.
For example, if the prime rate goes up, the interest portion increases while the principal portion decreases. Thus, for variable-rate mortgages with fixed payments, the trigger rate is the interest rate at which the interest portion of the payment equals the total payment amount, bringing the principal portion down to zero. If interest rates rise above the trigger rate, the amount needed to cover the interest payment becomes more than the mortgage payment. Ultimately, every borrower with a variable-rate mortgage and fixed payments has an individual trigger rate that is outlined in their mortgage agreement.
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What Happens When You Reach Your Trigger Rate?
As a borrower, it’s important to understand exactly what will happen if and when you reach your trigger rate. Once your trigger rate has been reached, your mortgage lender or broker will contact you (likely over the phone) to notify you that your payments are no longer covering your mortgage. At this point, they will explain your options and help you decide how to move forward.
Although borrowers may have the option of continuing to pay the same amount, this could be a mistake. With every month that goes by, you will owe more money on your property. If left unchecked, your rising balance will only get worse as time goes on, leaving you with a much larger debt in the future. For this reason, when the trigger rate is reached, many borrowers opt to increase the size of their monthly mortgage payments to avoid an even worse, more consequential threshold: the trigger point.
What Is a Trigger Point?
Trigger rate and trigger point are two terms that are commonly used interchangeably, but this is a mistake as they represent two distinct stages. In contrast to a trigger rate, which is when you initially reach the point where your entire mortgage payment is going toward the interest accrued rather than the principal loan, a trigger point is when a borrower can no longer continue making the same monthly payments they’ve been making. The main difference is that when a borrower reaches their trigger rate, they have options regarding how to proceed. It is less severe than reaching the trigger point, at which stage the borrower has no other option than to increase their monthly payments.
Trigger points are not universal among borrowers. Rather, like trigger rates, trigger points are individualized and will be specified in your mortgage contract. One of the most common trigger points is when the balance owing on your mortgage exceeds the amount you borrowed. For example, if you were approved for a $500,000 variable-rate mortgage loan and reached your trigger rate after getting the balance down to $480,000, the interest amount your payment failed to cover would then start being added to your balance. If your interest owing climbed so high as to bring your balance back up to the original $500,000 of your loan, your trigger point would be reached. Another common trigger point is a percentage of your home’s value (for example, a borrower may reach their trigger point if their balance exceeds 100% of the home’s appraised value).
What Happens When You Reach Your Trigger Point?
As mentioned above, when you reach your trigger point, you will be forced to take action to bring your payment down. While reaching one’s trigger rate is a warning that should be taken seriously by the borrower, it does not technically require action the way that reaching a trigger point does. It is at this stage that your mortgage lender will require you to do something that results in you paying off your balance. Your mortgage lender or broker will help you understand your options. Some of the most common options include:
- Increasing your monthly payments: One of the simplest options when you reach your trigger point is to increase your monthly payments. The requirements vary from lender to lender, but typically you would need to increase your payment amount so that the new amount covers the interest accrued plus a small portion of your principal.
- Making a lump-sum payment: Another option that may be available to borrowers who reach their trigger points is to make a lump-sum payment. This is likely not feasible for everyone, but if you have some extra cash lying around, using it to make a large payment can lower your mortgage balance. This one-time payment may even be enough to bring you back under your trigger rate. However, keep in mind that this will only be a temporary fix unless you increase your payments in the future.
- Converting to a fixed-rate mortgage: Some mortgage lenders allow borrowers to switch from variable-rate mortgages to fixed-rate mortgages, even after the term has begun. Fixed-rate mortgages tend to have higher rates than variable-rate mortgages. However, they are guaranteed to remain the same for a term of up to five years. Therefore, while switching to a fixed-rate mortgage will almost certainly increase your monthly payments, it can also help you avoid any surprise increases for the remainder of your term. If converting your variable-rate mortgage to a fixed-rate mortgage interests you, be sure to speak with your mortgage lender or broker about any penalties that may come along with doing so.
- Extending your amortization period: Beyond increasing your regular payments, you may be able to extend your amortization period to make your payments more manageable. For example, if you were originally on a 20-year amortization schedule when you reached your trigger point, your lender may advise you to switch to a 25-year amortization. However, if you have already reached the maximum amortization allowed, then you might have no other option than to significantly increase your monthly payment. Further, it’s important to remember that the longer it takes you to pay off your mortgage, the more interest you will end up paying (extending a $100,000 mortgage from five years to 10 years at 4.25% interest will cost an additional $11,747 in interest).
- Paying off your mortgage entirely: One last option a borrower has when they reach their trigger point is to pay off the remaining balance of their mortgage loan. Although this will not be an option for many people, it is worth mentioning in case you recently came into some money or have a family member who can help.
How to Calculate Trigger Rates
Trigger rates vary from borrower to borrower since they are based on a number of personal factors, like your mortgage amount, interest rate, and monthly payment schedule. Therefore, the fastest way to calculate your trigger rate is by looking at your mortgage agreement. Your mortgage contract will clearly state your trigger rate, so you will know when to expect a call from your lender. However, the trigger rate listed in your contract does not take into account any prepayments. So if you have made a prepayment, it will be applied directly to your principal, which means your trigger rate might be higher than stated in your contract. For this reason, another way to find out your trigger rate that has a higher guarantee of accuracy is to contact your mortgage lender directly. They will be able to calculate your current trigger rate, giving you an accurate picture of the state of your loan.
Trigger Rate Calculator Example
If you would prefer to calculate your trigger rate on your own, you can certainly do so. The best way to do this is by using this formula: the payment amount is multiplied by the number of payments each year divided by the balance owing. From there, multiply that number by 100 and you have your trigger rate as a percentage.
For example, if you have a current mortgage balance of $500,000 and make biweekly payments each year (26 payments per year) of $1,500 each, then your calculation would be as follows: ($1,500 X 26 / $500,000) X 100 = 7.8%. Using this example, your trigger rate would be 7.8%.
Here is another example of a borrower who makes monthly payments. Let’s say you have a variable-rate mortgage of $800,000 and you make one payment each month of $3,500. In this scenario, the balance owing on your mortgage is $800,000, your payment frequency is monthly (12 payments per year), and your payment amount is $3,500. Using the formula above, the calculation would be as follows: $3,000 x 12 / $800,000) X 100 = 4.5%. Therefore, the trigger rate would be 4.5%.
Please note that mortgage lenders may use slightly different formulas to calculate trigger rates, so we still recommend contacting your mortgage lender if you want to know your current trigger rate.
Frequently Asked Questions
How do I find out my trigger rate?
There are several ways to find out your trigger rate. First, you can look at your mortgage agreement, where your trigger rate will be clearly outlined. If you have made prepayments, the trigger rate in your mortgage contract may no longer be accurate. That brings you to your second option, which is to contact your mortgage lender directly and ask them to provide your trigger rate. They will calculate your trigger rate for you so that you have the most up-to-date information. Another option is to calculate your trigger rate yourself. There are all kinds of free mortgage calculators online. However, you can also use this simple formula: (The payment amount X the number of payments made each year / the balance owing on your mortgage) X 100 = the trigger rate as a percentage. An example of such a calculation is as follows: ($2,000 X 12 payments per year / $500,000) X 100 = 4.8%.
Keep in mind that trigger rate calculations can vary from lender to lender, so we recommend speaking with your mortgage lender to understand exactly how they calculate trigger rates.
What happens if I hit my trigger rate?
Once you hit your trigger rate, your mortgage lender will notify you. You are not required to take action at this stage, but it is highly recommended. When your mortgage lender contacts you, they will inform you of your options. Generally speaking, when a trigger rate is reached, borrowers are strongly advised to increase their monthly payments to avoid things spiralling out of control.
How do you avoid the trigger rate?
To avoid reaching the trigger rate, we recommend taking action as soon as possible. If your mortgage lender recently informed you that you have reached your trigger rate or you simply know you are approaching that stage, we strongly advise increasing your mortgage payments as soon as possible. This is the best way to ensure your debt does not rise to an unattainable amount. Another way to avoid reaching your trigger rate is to switch to a fixed-rate mortgage before this point is reached. Keep in mind that trigger rates only come into play for variable-rate mortgages, not fixed-rate mortgages. However, it’s worth noting that while fixed-rate mortgages offer greater stability, they usually come with higher payments.
Ultimately, the best thing you can do if you are near your trigger point but do not want to reach it is to contact your mortgage lender or broker right away. They can walk you through your options and help you come up with a plan to get back on track.
What happens if I don’t take any action once a trigger rate is reached?
If you don’t take action once your trigger rate is reached, you will continue accruing interest and your debt will keep rising. If the amount you owe surpasses the trigger rate and reaches the trigger point (lenders have different thresholds for this, which will be outlined in your mortgage agreement), you will be forced to take action. At this stage, your options may include increasing your monthly mortgage payments, making a large lump-sum payment, converting to a fixed-rate mortgage, or paying off your mortgage balance in its entirety.
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