Rising Interest Rates
July 19th, 2023
Re: Rising interest rates and what you can (and likely should) do about it.
First, let me thank you for being a member of Kingston Community Credit Union, Kingston’s only local financial institution, now in its 66th year serving the greater Kingston community and surrounding areas.
Your credit union serves its members as more than a financial institution but as a trusted partner in our financial lives and in our community. The credit union operates for all members and one of its primary duties is to represent them, their families, and their community’s best interests.
Though profitability is important to build our future together and to enable us to provide services at competitive prices, our main goal is to maximize member benefits, collectively and individually.
As many of us are aware, the Bank of Canada has used its tools to fight inflation. The most obvious impact they have is through the central bank’s interest rate-setting policies.
Since the beginning of 2022, the Bank of Canada has increased its rate by 4.75%. Though this helps to cool down inflation by reducing demand, it impacts members who borrow more directly by increasing interest costs. Variable-rate credit products such as variable personal loans, lines of credit, home equity lines, and variable-rate mortgages are all affected by this. Banks and financial institutions determine their “prime rate” based on the Bank of Canada and KCCU is no exception.
To give borrowers an idea of the impact, we need to look at what a “blended” payment is. A “blended” payment is a payment determined at the time the loan is granted that determines how long it takes to be paid off (the amortization).
For example, if a member took out a loan for $10,000 at 5% over 5 years, assuming all insurances and fees were included in that amount, you could go to the home page of the www.kccu.ca website and see the following:
Click on the calculator using whatever your existing (current) balance is on your loan to see various fields like the example below:
If you change the rate to take into consideration the increases in the Bank of Canada rate and redid the calculation at 7.75% (5% original rate plus as an example, an increase of 2.75%), you will see that you either have to increase your payment to pay the loan off over 5 years (130 bi-weekly periods) or accept that the loan will take longer to pay off.
That’s because the interest portion of the blended payment is higher, so the amount that pays down the original principal is a lower portion of the original payment.
The difference per $10,000 is $92.90 (the new payment which pays off the loan over 5 years at the rate of 7.75%) less $87.01 (the original payment determined at 5%). This represents $5.89 more needed for every payment to stay on track and have the loan paid out in 5 years as originally intended.
No big deal!? Well…. If that was $100,000 that would be an increased payment of $58.90 every two weeks. On $300,000 that’s another $58.90 x 3 = $176.70 every two weeks – So the impact increases the larger the loan.
So, what are my options?
1. If you are paying interest only, your payment will rise, and you will automatically see higher payments. The rest you pay off voluntarily as you always did. After the interest is paid, all amounts above that go to the principal and bring your line of credit or Home Equity Line balance down.
2. If you have a personal loan and a blended payment, you can (a) accept that it will take longer (the amortization will increase) because the interest portion of your blended (interest plus principal reduction) payment has risen or (b) you can ask that your loan be recalculated so it gets paid in full as originally intended (the amortization at the time the loan was granted). In this option, you voluntarily increase your loan payment to cover the increased interest. Using the above example, you start paying $92.90 instead of $87.01 bi-weekly.
3. If you choose not to increase your payment, then after 5 years you will still have a balance remaining of $10,000 - $9,366 = $634. At $87.01 bi-weekly that will add roughly 8 bi-weekly payments making your 130 bi-weekly payments into 138 payments (adding approximately 4 months to how long it takes to pay off the $10,000 loan in this example).
The thing to take into consideration is that in a fixed-rate mortgage or fixed-rate loan, your payment and amortization only change when it’s time to renew. So, it’s a good idea to talk to your lender and bring all of your debts together into the lowest-cost option. Credit cards, payday loans, and other higher interest rate debts need to be combined as much as possible to ensure your interest charges are as low as they can be while ensuring you are out of debt in a timeframe (over an amortization) YOU control.
If you renew your mortgage, KCCU lenders will offer you options to help you control the level of your payment. Bear in mind, you cannot exceed a 25-year amortization on a mortgage renewal, and you cannot exceed a 5-year amortization on a loan renewal (in most cases). One thing is certain, knowledge is power, and we are here to help.
I strongly urge you to check our website and do some calculations to see what you are comfortable with and to ensure your monthly budget can adjust to higher lending costs. As always KCCU is here to help, and we are sending this letter out so you can start making decisions now before they are forced upon you by rising rates and interest rate changes out of all our control.
Call your branch today and arrange an appointment with your favourite lender in person or by phone. We have in-person and contactless (e-signature) options, and we can help you to understand your options we will help you find ways to reduce interest costs by combining everything into one low-rate loan if you have more than one loan or credit card or by just talking and making sure you get to decide what’s best for you and your family.
David S. Bull,
CFO / Credit Manager