Should You Use a Mortgage Broker Who Offers a Cash Rebate? [Guest Post]

As many new homebuyers can attest, buying a condo is an expensive process. You can count on land transfer taxes and and other closing costs. But for many first-time homebuyers, you may need of some extra cash for furniture and other expenses. If this is the case, you may consider using a mortgage broker who offers a cash back rebate on your mortgage.

This mortgage product is known as a cash back mortgage.

To get a cash back mortgage, your mortgage broker will pair you with a lender who offers a cash rebate, usually a percentage of your mortgage amount. The rebate is usually 5% but can vary between 1% and 7%. The rebate is paid out up front and there are no restrictions on how to spend the cash.

A cash back mortgage can help you financially during this expensive life event. But the rebate comes with a tradeoff: A higher interest rate. Cash back mortgages almost always have a higher interest rate than a typical fixed-rate mortgage.

Let’s look at an example comparing a standard five-year fixed-rate mortgage term and a cash back mortgage, also with a five-year fixed-rate term.

In the first example, you buy a $500,000 condo with a 20% down payment ($100,000) and get a $400,000 mortgage at a five-year fixed rate of 2.33%, amortized over 25 years. Your monthly mortgage payment will be $1,758. Over the five-year term, you’ll pay $42,876 in interest on this mortgage.

Now let’s look at the how much you’ll pay if you choose a cash back mortgage. With a cash back mortgage, all of the parameters above stay the same, except for the interest rate.

Instead of qualifying for today’s best mortgage rates, your cash back mortgage requires a five-year fixed interest rate of 4.79%. This interest rate qualifies you for a 5% cash back rebate or exactly $20,000.

The higher interest rate raises your monthly mortgage payment by $521 to $2,279 per month. The inflated interest rate also means you’ll pay more in interest overall. Over the five-year term, you’ll pay $89,581 in interest.

Compared to the standard mortgage, you’ll pay $46,706 more in interest over the first five years of your mortgage just for the privilege of receiving $20,000 up front.

Breaking your cash back mortgage term early

When you commit to a five-year mortgage term, you’re committing to honour that term for five years. In return for this commitment, your lender will offer you a very low interest rate.

If you need to break your mortgage term early because you’re selling your condo, you’ll pay a mortgage prepayment penalty. Also, if you have a cash back mortgage, you may be required to return your rebate to your lender or a pro-rated portion of your rebate.

For example, if you decide to sell your condo four years into your five-year mortgage term and your lender has a pro-rated policy, you’ll need to pay back 20% of the rebate because 20% of your mortgage term is remaining. It’s $4,000 you’ll have to return to your lender that’s in addition to the prepayment penalty.

The bottom line

Cash back mortgages may seem like a great solution to a temporary cash-flow problem, but that money comes at a high long-term cost. Whether or not you should choose a cash back mortgage depends on your unique financial situation. If you think a cash back mortgage is a good option for you, make sure to do the math so you know exactly how much your cash back mortgage will cost over the long term.

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Roy Bhandari