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Fixed vs Variable Mortgage Rates: Which Should You Choose?

Choosing between a fixed and variable mortgage rate can be one of the most important financial decisions you make. This guide explains how each works, their pros and cons, and what factors to consider for your situation.

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fixed and variable rates

When you take out a mortgage, you choose how the interest rate on your loan will be set. The two main options are fixed-rate and variable-rate mortgages. Each affects your monthly payments and long-term costs differently.

A fixed-rate mortgage locks in the interest rate for the entire term of your mortgage, which is typically 1 to 10 years. This means your mortgage payment amount remains the same throughout the term, providing predictability and protection from interest rate increases.

A variable-rate mortgage has an interest rate that fluctuates with the lender's prime rate. The prime rate is tied to the Bank of Canada's overnight rate, which changes in response to economic conditions. With a variable-rate mortgage, your monthly payment amount may stay fixed for the term, but the portion of your payment that goes toward interest versus principal changes as the prime rate changes. If rates rise, more of your payment goes to interest; if rates fall, more goes to paying down principal.

Sources: RBC Royal Bank of Canada, IG Wealth Management, Northern Birch Credit Union

How Each Rate Type Works

Fixed and variable mortgage rates are determined by different market factors.

Fixed mortgage rates in Canada are influenced by Government of Canada bond yields. Lenders set fixed rates based on these yields, plus their own margins and costs.

Variable mortgage rates are tied to the prime rate, which is the rate banks charge their most creditworthy borrowers. The prime rate moves in step with the Bank of Canada's overnight rate target. When the Bank of Canada raises or lowers its target, most banks adjust their prime rate by the same amount, and variable mortgage rates follow.

At RBC, variable-rate mortgages are typically offered in 5-year terms, while fixed-rate mortgages are available in terms ranging from 1 to 10 years.

Sources: Ratehub.ca, IG Wealth Management, NerdWallet Canada

fixed rates

Fixed-rate mortgages offer stability and predictability, which can be appealing if you prefer to know exactly what your mortgage payment will be each month.

  • Payment remains constant for the entire term, making budgeting simpler.
  • Protects you from rising interest rates; your rate won't change even if the prime rate or bond yields increase.
  • Cannot benefit from falling interest rates without refinancing, which can involve costs and penalties.
  • Fixed rates often start higher than variable rates, reflecting the certainty they provide.
  • Penalties for breaking a fixed mortgage early can be significantly higher, often based on the interest rate differential (IRD).

Sources: RBC Royal Bank of Canada, IG Wealth Management, NerdWallet Canada

variable rates

Variable-rate mortgages can offer lower initial rates and the potential for savings if interest rates remain stable or decrease.

  • Often have lower starting interest rates compared to fixed rates.
  • Can benefit from falling interest rates, as a larger portion of your payment goes toward principal when rates drop.
  • Expose you to risk if interest rates rise, potentially increasing the time it takes to pay off your mortgage. Depending on the mortgage structure, your payment may increase, or the amortization period may lengthen.
  • Penalties for breaking a variable mortgage early are typically lower, often equal to three months' interest.
  • Variable-rate mortgages can usually be converted to a fixed-rate mortgage at any time without penalty, giving you flexibility if you want to lock in a rate later.

Sources: RBC Royal Bank of Canada, NerdWallet Canada, IG Wealth Management, Perch

Factors to Consider When Choosing

Deciding between a fixed and variable mortgage rate depends on your personal financial situation, risk tolerance, and expectations for future interest rates. Here are key factors to consider:

  • Your budget: Can you comfortably handle a potential increase in your mortgage payment if rates rise? Fixed rates offer certainty, while variable rates may require flexibility.
  • Your risk tolerance: Are you comfortable with uncertainty, or do you prefer knowing your payment will never change?
  • Your plans: If you plan to stay in your home for a longer period, a fixed rate might provide peace of mind. If you might move or refinance soon, consider the potential penalties for breaking the mortgage early.
  • Current and expected interest rates: Variable rates have historically been lower than fixed rates on average, but this relationship can change and has reversed in recent years. Consider current market conditions and your outlook for future rate movements.
  • Prepayment options: Both fixed and variable mortgages at RBC may offer prepayment privileges, but the terms can vary. Check the specifics for each product.
  • Penalty structure: Understand the prepayment charge for each type of mortgage. Fixed-rate mortgages often have higher penalties based on the interest rate differential, while variable mortgages typically charge three months' interest.

Sources: RBC Royal Bank of Canada, Ratehub.ca, IG Wealth Management, Northern Birch Credit Union

Historical Performance Comparison

Historical trends can give you a sense of how fixed and variable rates have compared over time, but past performance is not a guarantee of future results.

Variable-rate mortgages have often offered lower initial rates than fixed-rate mortgages, and on average, they have been cheaper over time in many periods. However, there have been periods when fixed rates were lower.

The relationship between fixed and variable rates can change based on economic conditions and market expectations. For example, as of the research date, variable rates were lower than fixed rates in Canada, but this is not always the case.

Ultimately, the best choice for you depends on your personal circumstances and your outlook for interest rates.

Sources: Ratehub.ca, IG Wealth Management, Northern Birch Credit Union

Decision Framework: How to Choose

To help you decide, use this framework:

  1. Assess your comfort with payment fluctuations. If you need predictable payments for your budget, a fixed-rate mortgage may be better.
  2. Consider your risk tolerance. If you are comfortable with some uncertainty in exchange for the potential of lower costs, a variable rate may be suitable.
  3. Evaluate your plans. If you expect to stay in your home for the full term, you may be more concerned about rate stability. If you might need flexibility to break the mortgage, consider the penalty differences.
  4. Look at current rates. Compare the fixed and variable rates currently offered by lenders like RBC. Remember that variable rates often start lower.
  5. Think about your personal financial goals. If you prioritize certainty and peace of mind, choose fixed. If you are willing to take on some risk for the chance of saving money, variable might be attractive.
  6. Review the specific terms and conditions of each mortgage product, including prepayment privileges and penalty calculations, before making a decision.

Sources: RBC Royal Bank of Canada, Ratehub.ca, IG Wealth Management, Northern Birch Credit Union

Frequently asked questions

Which is cheaper over time: fixed or variable?

Historically, variable-rate mortgages have often been cheaper than fixed-rate mortgages on average, because they typically start with lower rates. However, this is not guaranteed, and there have been periods where fixed rates were lower. The actual cost depends on how interest rates change during your term. As of the latest data, variable rates were lower than fixed rates in Canada, but this can change.

Sources: Ratehub.ca, IG Wealth Management, Northern Birch Credit Union
Can I switch from variable to fixed later?

Yes, variable-rate mortgages at RBC can typically be converted to a fixed-rate mortgage at any time without penalty. This allows you to lock in a fixed rate if you want more certainty and protect against rising interest rates.

Sources: RBC Royal Bank of Canada, NerdWallet Canada, IG Wealth Management, Perch
How does the prime rate affect variable rates?

Variable mortgage rates are directly tied to the lender's prime rate. The prime rate moves when the Bank of Canada changes its overnight rate target. When the prime rate changes, your variable rate changes by the same amount, which affects how much of your payment goes to interest versus principal. If the prime rate rises, more of your payment goes to interest; if it falls, more goes to principal (assuming a fixed payment amount).

Sources: RBC Royal Bank of Canada, Ratehub.ca, IG Wealth Management, Northern Birch Credit Union

Sources

  1. Fixed vs. Variable Rate Mortgages - Key Differences | RBC Royal Bank of Canada — RBC Royal Bank of Canada
  2. Fixed vs Variable Mortgage Rates | Comparing Pros and Cons | Ratehub.ca — Ratehub.ca
  3. Prime Rate in Canada — Ratehub.ca
  4. RBC Mortgage Rates - NerdWallet Canada — NerdWallet Canada
  5. Fixed vs. variable rate mortgages: which is right for you? — IG Wealth Management
  6. Variable vs Fixed Rates — Northern Birch Credit Union
  7. Perch | Royal Bank of Canada Fixed & Variable Mortgage ... — Perch