Real Estate

Fighting a IRD penalty for selling house and breaking mortgage

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  • Mar 18th, 2017 6:50 pm
Deal Addict
Aug 12, 2004
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Calgary
IndustrialKid wrote: This is wrong. You pay the lender mortgage interest when the lender lends you money. You don't need to pay any interest as soon as you pay him back. It's like saying a credit card company can continue charging you interest even if you paid off the balance in full. Of course there would be transactional and opportunity costs suffered by the lender, that's why the standard is 3-month interest for ending a mortgage early. But you should never be liable for interest on money that you haven't borrowed or have returned.
You need to read up the terms of a fixed closed mortgage. And no, the standard is not the 3 month interest, that's a myth. It's the higher of 3 month interest or IRD, and based on that, the IRD will almost always be the higher penalty.

http://www.integratedmortgageplanners.c ... than-ever/
Deal Addict
Aug 12, 2004
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To add more info, one of the main reasons I am a landlord now, is because the IRD penalty to sell my condo and pay the mortgage was 14K with 3 years remaining on a 5 year closed mortgage term (was not allowed to port my mortgage).
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Nov 22, 2015
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IndustrialKid wrote: This is wrong. You pay the lender mortgage interest when the lender lends you money. You don't need to pay any interest as soon as you pay him back. It's like saying a credit card company can continue charging you interest even if you paid off the balance in full. Of course there would be transactional and opportunity costs suffered by the lender, that's why the standard is 3-month interest for ending a mortgage early. But you should never be liable for interest on money that you haven't borrowed or have returned.
I think Firebot was just giving a general explanation as to why pre-payment penalties exist. I don't think he meant that you're literally paying interest on funds that you've already repaid....

Banks charge a stiff penalty on fixed rate mortgages because they expected to be paid a certain amount of interest over the term of the mortgage - the bank knows exactly how much they will earn from your mortgage, and this is known as the Cost of Borrowing. If you're going to cut your mortgage short the bank isn't going to earn as much interest as they originally expected, and thus, they charge a pre-payment penalty to recoup their "loss".
Deal Guru
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Mar 31, 2008
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Actually, the penalty to completely break my variable rate mortgage is $10K. It was in the fine print that I didn't really read about.
Jr. Member
Jun 24, 2011
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West Lafayette, Indi…
Firebot wrote: You need to read up the terms of a fixed closed mortgage. And no, the standard is not the 3 month interest, that's a myth. It's the higher of 3 month interest or IRD, and based on that, the IRD will almost always be the higher penalty.

http://www.integratedmortgageplanners.c ... than-ever/
Thanks for this link.

But in this case my rate is actually lower than the posted rate closest to the remaining term in effect now, so the IRD in this case is negative? So I just pay the three months interest, correct?
Penalty Box
Dec 27, 2013
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Toronto
valuemortgage wrote: At the risk of sounding unfair or biased, I will provide some feedback as well. First obvious disclosure is that yes, I am a mortgage agent.. and no, I do NOT profit a single penny if the client pays a penalty or not. The purpose of my post is to simply show how the same scenario can be seen under different angles.
Unfortunately, the OP wont be able to negotiate the penalty (unless some incredibly unusual set of circumstances happen - but I would say the chances are less than 0.00001% of success) as this situation he finds himself in right now, has been explained and presented to him in advance, at the tie he signed the contract. While the formula to calculate IRD may not be in the mortgage approval, it certainly IS in the legal paperwork sent to the lawyer and signed by the client, before closing. No lender is allowed to have a contract that says "you will pay any penalty that I find suitable" without clearly describing how it is calculated. The truth is, most people dont bother reading the 50 pages they sign at the lawyer's office.

Another point I want to make is how the consumer would perceive this, if the roles were switched. Imagine getting into a 5 years fixed rate contract at 2.99%, then 2y into the contract the lender sent a letter saying that due to unforeseen increases in business costs, they now have to raise the rate to 3.99% to make sure they dont miss their targeted profitability this year. Clients would be outraged, and would then immediately demand that whatever is on the contract must be honored, no matter what the costs may be. If the lender will go bankrupt, that is his problem - some would say. Conversely, the client is now trying to break the same contract, in very similar circumstances, but does not think it is fair that a contract signed and agreed by both parties should actually be enforced, only because it will cause him/her some financial losses.

If he recently renewed the mortgage, why did he get into another 5y term on a fixed rate, when penalties can be very harsh? Proper planning goes a long way, and having a variable mortgage (for example) would allow him now to break that term with minimal costs. But as we know, variable mortgages come with the risk of fluctuating rates - but the price one pays to shift the responsibility (and cost) of having a fixed/set interest cost to the lender is exactly why there are serious penalties involved, if one wants to break that term.
but but but but the big bad bank is always big bad!
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Mar 31, 2008
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IndustrialKid wrote: Thanks for this link.

But in this case my rate is actually lower than the posted rate closest to the remaining term in effect now, so the IRD in this case is negative? So I just pay the three months interest, correct?
No, it's basically something like Posted Rate - Your Rate = Penalty. Basically, part of the condition of getting that discount is staying with them for 5 years. Otherwise, you get charged the full rate.

It's like a cell phone plan where you get a discounted phone, and paid over time. If you try to leave, the cell phone company will then make you pay the remaining cost of that cell phone and I believe remove the discount (remember, they took a loss on the phone in order to secure you for the life of the contract.. if they lose the contract which is their profitability, they're going to make sure they don't lose on the phone)
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Sep 19, 2012
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at1212b wrote: No, it's basically something like Posted Rate - Your Rate = Penalty. Basically, part of the condition of getting that discount is staying with them for 5 years. Otherwise, you get charged the full rate.
Yup - that just about sums up the "big bank" methodology. Non-bank lenders (MCAP/FN for example) use a more lenient posted rate (ie: the posted rate for their calculations approximates a real rate that you'd probably end up getting). This is fairer in that it tries to approximate the actual opportunity cost lost to the lender by your mortgage cancellation.
Nikola Alaica, CPA, CA | Tax, Accounting, Mortgages
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Apr 21, 2014
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ahlaker wrote: Yup - that just about sums up the "big bank" methodology. Non-bank lenders (MCAP/FN for example) use a more lenient posted rate (ie: the posted rate for their calculations approximates a real rate that you'd probably end up getting). This is fairer in that it tries to approximate the actual opportunity cost lost to the lender by your mortgage cancellation.
One of the reasons I went with a monoline lender. I have Mcap and they don't have ridiculous posted rates that they can use to screw you.
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Feb 2, 2014
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ahlaker wrote: Yup - that just about sums up the "big bank" methodology. Non-bank lenders (MCAP/FN for example) use a more lenient posted rate (ie: the posted rate for their calculations approximates a real rate that you'd probably end up getting). This is fairer in that it tries to approximate the actual opportunity cost lost to the lender by your mortgage cancellation.
This isn't quite accurate.

The problem with Big Banks is they apply a "discount" to their posted rate when calculating IRD. The discount represents the discount you got on your mortgage initially. Therefore the spread between your current mortgage rate and their posted rate (with the discount) is greater than monoline lenders (which do not apply a discount to the poster rate used for the IRD calculation).

It's brutal.
Kevin Somnauth, CFA
Principal Broker/Owner - First Toronto Mortgage - MA (Ontario #13176, BC #X301007)
Real Estate Salesperson - Century 21 Innovative
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Feb 2, 2014
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TG3857 wrote: Hi.

I used to work in mortgage admin many years ago. This was before the gov't required banks to better disclose the details of mortgage penalties in the mortgage commitment.

My friend's brother recently renewed their mortgage on a 5 year fixed closed but after a few months, circumstances in life changed and they have to move a couple hours away. There's a piece of land they found and plan on building a house from scratch there. The lender said the penalty would be high 30,000s. I don't want to say who the lender right now.

The lender won't allow them to port the mortgage over to the new house because they are using the sale proceeds from the house to buy the land and hire the contractor to build their house. This could take up to a year. As well, they were advised by an independent broker that they would have a hard time getting a prospective buyer to assume their mortgage without getting a deep discount on the sale price of the home.

By the way, I explained to him why there are penalties. And that the calculation differs from lender to lender. And also, they did not get their mortgage from a lender using a posted then discounted rate like the big banks.

The mortgage commitment does not provide a formula and says the calculation is at the discretion of the lender.

Has anyone had some experience fighting a lender for such an exorbitant penalty? When I used the penalty calculator online that shows you penalties for various lenders, none came close to this one. And it's not one of the listed lenders in the list.

Is there an ombudsman office you can fight a lender?

I couldn't give him anymore input because I would feel uncomfortable after being away from mortgage for so many years.

Thanks for any info.
Will you need construction financing for the new home you are building? If so, ask if you go through them for construction financing, if they will credit you back some of the penalty.

Sorry, that's the best advice I can give you (besides avoiding Big Banks and possibly choosing variable next time which only has a 3 month interest penalty).
Kevin Somnauth, CFA
Principal Broker/Owner - First Toronto Mortgage - MA (Ontario #13176, BC #X301007)
Real Estate Salesperson - Century 21 Innovative
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Sep 19, 2012
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CdnRealEstateGuy wrote: This isn't quite accurate.

The problem with Big Banks is they apply a "discount" to their posted rate when calculating IRD. The discount represents the discount you got on your mortgage initially. Therefore the spread between your current mortgage rate and their posted rate (with the discount) is greater than monoline lenders (which do not apply a discount to the poster rate used for the IRD calculation).

It's brutal.
OK - I think I'm picking up what you're putting down. Say you got the 2.35% deal with HSBC today, that would represent a 2.29% discount from their 5 year posted rate. They then apply that 2.29% discount to every posted rate as you go through your term. They are then making the rate you're paying artificially higher than the reinvestment rate, because they assume you'd get that same discount across the entire term (as you cycle through 4,3,2 and 1 years left). So you get to year 3, you have the 2 year posted rate as a reference (which for today is 3.14%) -- they then take the discount and suddenly their "reinvestment" rate is an insanely low 0.85%. They then say, well I want you, Joe Borrower, to pay the difference between 2.29% and 0.85% even though they sure as hell know that their reinvestment rate is nowhere near 0.85% (probably at least triple that!).

So it's not quite as simple as "difference between posted and contract rate". Good call! And yes, absolutely insanely brutal!
Nikola Alaica, CPA, CA | Tax, Accounting, Mortgages
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Jan 15, 2017
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ahlaker wrote: OK - I think I'm picking up what you're putting down. Say you got the 2.35% deal with HSBC today, that would represent a 2.29% discount from their 5 year posted rate. They then apply that 2.29% discount to every posted rate as you go through your term. They are then making the rate you're paying artificially higher than the reinvestment rate, because they assume you'd get that same discount across the entire term (as you cycle through 4,3,2 and 1 years left). So you get to year 3, you have the 2 year posted rate as a reference (which for today is 3.14%) -- they then take the discount and suddenly their "reinvestment" rate is an insanely low 0.85%. They then say, well I want you, Joe Borrower, to pay the difference between 2.29% and 0.85% even though they sure as hell know that their reinvestment rate is nowhere near 0.85% (probably at least triple that!).

So it's not quite as simple as "difference between posted and contract rate". Good call! And yes, absolutely insanely brutal!
Yes, it is not quite as simple as the difference between the posted and contract rate. If you check out lender's pre-payment calculators, you will see that many lenders calculate the IRD differently. I have taken the same 5 yr fixed mortgage being broken at the 3 yr mark and used different lender's online calculators. The penalty has ranged from an amount equivalent to 3.7 months interest to 21 months interest.

But really, sometimes we all have to give our heads a shake. If inflation is running at around 2%, and mortgage lenders are securing mortgage funds from the bond markets at around 1.5% - how the heck do you think mortgage rates can be offered at 2.5%? But, if you are like the homeowner that the OP mentioned, you sign at a low rate and then a few months in you pay an extra $30K plus in interest fees, then the rate of interest that you actually paid is significantly higher than the low rate that you signed.

Signing that 5 yr low rate term without a second thought can be one of the surest way to a very expensive mortgage.
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Feb 2, 2014
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ahlaker wrote: OK - I think I'm picking up what you're putting down. Say you got the 2.35% deal with HSBC today, that would represent a 2.29% discount from their 5 year posted rate. They then apply that 2.29% discount to every posted rate as you go through your term. They are then making the rate you're paying artificially higher than the reinvestment rate, because they assume you'd get that same discount across the entire term (as you cycle through 4,3,2 and 1 years left). So you get to year 3, you have the 2 year posted rate as a reference (which for today is 3.14%) -- they then take the discount and suddenly their "reinvestment" rate is an insanely low 0.85%. They then say, well I want you, Joe Borrower, to pay the difference between 2.29% and 0.85% even though they sure as hell know that their reinvestment rate is nowhere near 0.85% (probably at least triple that!).

So it's not quite as simple as "difference between posted and contract rate". Good call! And yes, absolutely insanely brutal!
You got it!
Kevin Somnauth, CFA
Principal Broker/Owner - First Toronto Mortgage - MA (Ontario #13176, BC #X301007)
Real Estate Salesperson - Century 21 Innovative

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