Variable Rate Mortgages with Fixed Payments: A Review of Trigger Rates
For most of 2021 and early 2022, variable mortgage rates were significantly lower than fixed mortgage rates. As a result, many borrowers have opted for a variable rate mortgage. These types of mortgages now account for around a third of total outstanding mortgage debt, up from around 20% at the end of 2019.
In Canada, about three quarters of variable rate mortgages have fixed payments. For these particular mortgages, when interest rates fluctuate, the amount of the mortgage payment does not change, but the portion devoted to interest (rather than principal) is adjusted. But if interest rates rise significantly, these mortgage borrowers may reach a point where their fixed payments only cover interest and not principal. The interest rate at which this occurs is known as the trigger rate. If rates rise above the trigger rate, then borrowers may need to increase their mortgage payment to cover the additional amount of interest. For some households, this increase in payments may be unexpected.
In this note, we take a closer look at the concept of trigger rate and discuss what usually happens if a borrower hits their trigger rate. Among borrowers with variable rate fixed payment mortgages, we estimate that about 50%, or nearly 13% of all Canadian mortgages, have already reached their trigger rate. This share will increase if bank prime rates increase further. However, this calculation does not take into account the measures that borrowers can take or have already taken to mitigate the effects of reaching the trigger rate. As such, our results represent an upper bound estimate.