Mortgage Break-Even Calculation: When Breaking Your Mortgage Pays Off

The break-even point answers one question: how many months it takes for the lower rate to earn back what breaking your mortgage costs. This page sets out the calculation and works through two examples. For the wider decision (reasons to break, alternatives, qualifying again), see should I break my mortgage for a lower rate?, part of the refinancing and home equity hub.

The calculation

Saving to date = monthly payment gap × months so far + (balance at the old rate − balance at the new rate)

Break-even point = the first month in which the saving to date is more than the total cost of breaking

Net result over the rest of the term = saving to date at the end of the term − total cost of breaking

The saving to date has two parts because a lower rate does two things at the same balance and amortization: it lowers the payment, and more of each payment goes to principal, so the balance falls faster. Together, the two parts equal the difference in interest paid. Dividing the total cost by the payment gap alone is a quick first estimate, but it leaves out the lower balance, so it puts the break-even point later than it is.

If the break-even point arrives before your current term would have ended, the lower rate has paid for the switch within the period you were locked in anyway. If it arrives later, the result depends on the rate you could have had at renewal, when you could switch without a prepayment penalty.

Step 1: Add up the cost of breaking

Start with the prepayment penalty and add every other cost of leaving. Breaking the contract can also cost administration, appraisal and reinvestment fees and a discharge fee, and you may have to repay any cash back you received. The discharge fee ranges in the table come from the Financial Consumer Agency of Canada’s (FCAC) page on discharging a mortgage.

The penalty is the figure to get in writing from your lender. The FCAC notes that federally regulated lenders such as banks have a prepayment penalty calculator on their websites, and our mortgage penalty calculator gives an estimate.

Step 2: Measure the saving

Compare the two mortgages at the same balance and the same remaining amortization, so that only the rate changes. Two figures make up the saving: the gap between the two monthly payments, and the gap between the balances you would owe at each rate after the same number of months. A mortgage calculator or amortization schedule gives both. The payments and balances in the examples below are computed with semi-annual compounding (see semi-annual compounding).

If you keep your old payment instead of lowering it, the saving shows up as an even faster-falling balance rather than as cash each month; the interest saved is what to compare with the cost either way.

Step 3: Compare with the months left in your term

The months left in your current term are the period the decision changes for certain. Counting savings over a whole new five-year term assumes the rate you could get at renewal would be no better than your current rate.

Worked example: same rate drop, two penalty quotes

The payments, balances and results in this example are computed on the page from its inputs.

The rate drop is the same in both cases; the larger penalty in case B moves the break-even point from month 14 to month 28 and leaves a smaller net saving. How lenders arrive at different quotes for similar mortgages is covered in how mortgage penalties are calculated and the prepayment penalty comparison.

Switching at renewal

At the end of the term you can move your mortgage to another lender without breaking it, so there is no prepayment penalty to recover. The FCAC lists the costs of switching as setup fees with the new lender (which may include discharge, registration, transfer or assignment fees from your current lender), an appraisal fee if necessary and other administration fees, and suggests asking the new lender whether it will pay some or all of them (FCAC: Renewing your mortgage). The same calculation applies with those fees as the total cost. See mortgage renewal vs refinance.

When blend-and-extend is the comparison

A blend-and-extend avoids the penalty by mixing your current rate with a new term’s rate. To compare it with breaking, set the extra cost of breaking (penalty plus fees) against the interest you would save at the rate you could get by breaking compared with the blended rate, over the new term: the payment difference over the term plus the difference between the two balances at its end. Blend and extend works through that comparison with the FCAC’s own example.

Rental property mortgages

If the mortgage is on a rental property, the Canada Revenue Agency’s rental income guide says a penalty or bonus paid to a financial institution to pay off a mortgage before it is due is not deducted in full in the year you pay it: it is prorated over the rest of the original term of the mortgage (CRA: Rental income, Guide T4036).

Checklist

• Get the penalty in writing from your lender, and ask how it was calculated.
• Ask the new lender which fees it will pay (legal, appraisal, discharge).
• Check whether you would have to repay cash back.
• Compute the payment gap and the balance difference at the same balance and amortization.
• Compare the break-even point with the months left in your current term.
• Compare against a blend-and-extend quote and against waiting for renewal.

Related pages

• Should I break my mortgage for a lower rate?
• How mortgage penalties are calculated
• Mortgage penalty calculator
• Blend and extend
• Mortgage refinance calculator
• Prepayment privileges
• Refinancing and home equity hub