The 5 Year Lock-In is Back

Written by Margaret Johnson | Wednesday, 18 January 2012

 The Bank of Montreal’s January 12^th 2012 media-attracting announcement of 2.9% interest for a 5 year mortgage sent a few shivers up and down my central nervous system. Why? Because I remember all of those locked in mortgages in the early 1980s – where people rushed to get locked in at extremely high rate mortgages at 18% or more because of fear.

Fear is a great motivator. Especially when it is disguised as a great opportunity to protect yourself from something bad like interest rate hikes – just lock-in now for 5 years.

 In the early 1980s thousands of individuals and families were crushed into destitution or foreclosure or both because of their inability to get out of locked-in mortgages. One of the dangerous secrets to the locked-in mortgage was the prepayment penalty. One of the more common restrictive obstacles was the provision that looked like a gift from the lender – you were allowed to repay 10% of the mortgage off every year without penalty. In many of the locked-in mortgages of the 1980s this was the only right to prepayment. You basically couldn’t pay any more off until the term was up.

Some mortgages didn’t say anything about prepayment at all. Much to the absolute horror to many consumers this allowed the lender to impose any kind of penalty they wanted if you decided or circumstances dictated the need to sell the property and get out of the mortgage before the 5 year term was up.

Another punitive stipulation was the interest differential provision. This meant that you would have to pay the difference if the interest rate dropped from the date of signing the mortgage – for the remaining time left on the locked-in mortgage. At 18% or 20% this was indeed prohibitive.

No doubt it was hype and fear that motivated people to lock-in at historically high interest rates. The rates soon fell leaving thousands of people stranded in locked-in mortgages. Their 5 year term became a prison term.

So, one might think that to lock-in at historically low rates would be an opportunity too good to ignore.

All attention has been shifted to low rates and the ‘you better rush to lock-in for 5 years or else’ undertone – or else you’ll miss this unbelievable gift. Affordability has been elbowed out of the way in favour of a good, if not unbelievable deal. You can almost see the lips moving – get the low rates no matter what.

Now, I don’t want to discount the idea of a 2.9% annual interest rate for a residential mortgage. It’s a great rate. It is a fabulous opportunity. My fear is about a 5 year lock-in provision and what that actually means. We live in volatile times. Five years is a very long time.

The financial experts have pointed out there are conditions and restrictions such as a stellar credit rating to qualify and prepayment penalties to get out early.

Many other banks offer a lower rate than 2.9% for shorter term mortgages like Scotiabank for a 3 year locked-in term. I would prefer a shorter term with even a better rate than going too deep into the future.

Just one more footnote on locked-in mortgages. Beware of any banks and financial institutions offering great rates to those with less than perfect credit ratings or have difficulty in qualifying for the banks prime rate 5 year locked-in mortgages. Sub-prime lenders tend to have far more onerous conditions and restrictions against early pay-outs.