Mortgage Penalty Calculator: IRD Or Three Months' Interest
The penalty for paying off a mortgage early in Canada is usually the greater of three months' interest or the interest rate differential on a fixed rate, and three months' interest on a variable. With the illustrative defaults below, $400,000 at 5.29% with 24 months left, three months' interest is $5,290 and the differential is $6,800.
How The Calculator Estimates The Penalty
It follows the method the Financial Consumer Agency of Canada describes. Three months' interest is the balance times the rate, divided by 12, times 3. The FCAC example is a $200,000 mortgage at 6%, which gives $3,000. The interest rate differential, IRD, is approximately the balance times the gap between your contract rate and a comparison rate, times the months left, divided by 12. For a fixed mortgage the estimate shown is the larger of the two. For a variable mortgage it is three months' interest. The comparison rate you enter is the one thing the calculator cannot know, and it decides the answer.
Your lender's own calculator uses their contract method, with their own comparison rate and their own rounding. Many lenders publish an online penalty tool, and the figure there, or the one your lender writes on a payout statement, is the one that counts. This page is for seeing the shape of the cost before you call.
Posted-Rate IRD Versus Discounted-Rate IRD
The comparison rate is where lenders differ. Two methods are common, and the contract says which applies.
| Method | Comparison rate | Usually seen at | Effect on the penalty |
|---|---|---|---|
| Discounted-rate IRD | The lender's current rate for a term equal to the time you have left | Many monolines and credit unions | Smaller, because both sides are discounted rates |
| Posted-rate IRD | The current posted rate for the remaining term, minus the discount you were originally given | Often the large banks | Larger, because the posted rate is high and the discount is subtracted from it |
The posted-rate method tends to produce larger penalties than discounted-rate methods. Both are legal and both must be disclosed under the Code of Conduct for Mortgage Prepayment Information, so the clause in your contract is what to read. If you cannot find it, ask your lender which method applies and have the answer in writing.
A Worked Example With Both Methods
Use the defaults: $400,000 balance, a 5.29% fixed rate, 24 months left. Three months' interest is 400,000 x 5.29% / 12 x 3, which is $5,290.
Discounted-rate IRD. Suppose the lender's current rate for a two-year fixed is 4.44%. The differential is 5.29% minus 4.44%, which is 0.85 points. The IRD is 400,000 x 0.85% x 24 / 12, or $6,800. The greater of the two is $6,800.
Posted-rate IRD. These inputs are assumptions for illustration, not market data. Suppose you were given a 2.20 point discount off the posted rate when you signed, and the lender's current posted two-year rate is 6.09%. The comparison rate becomes 6.09% minus 2.20%, or 3.89%. The differential is 5.29% minus 3.89%, which is 1.40 points. The IRD is 400,000 x 1.40% x 24 / 12, or $11,200. Same mortgage, same balance, same months left, a penalty $4,400 higher, entirely from how the comparison rate was built.
| Measure | Comparison rate | Amount |
|---|---|---|
| Three months' interest | not used | $5,290 |
| Discounted-rate IRD | 4.44% | $6,800 |
| Posted-rate IRD (assumed inputs) | 3.89% | $11,200 |
The calculator above works for either method. Put the comparison rate your lender uses into the field, and the IRD line changes with it.
When Three Months' Interest Is The Larger Number
On a fixed mortgage the IRD is not always the larger figure. Take $250,000 at 5.29% with 12 months left and a comparison rate of 4.44%. Three months' interest is 250,000 x 5.29% / 12 x 3, which is $3,306.25. The differential is 250,000 x 0.85% x 12 / 12, which is $2,125. The penalty is the greater, $3,306.25. The same thing happens when the term is nearly over: on the $400,000 default balance with six months left, the IRD at a 0.85 point gap is $1,700, well under the $5,290 three-month figure. The IRD matters when there is a long stretch left and a wide rate gap, such as 36 months left on the defaults, where it reaches $10,200.
The reverse also holds. If the comparison rate is higher than your contract rate, the IRD is zero or negative and the three-month figure applies. That is why a mortgage taken at a low rate and broken when rates are higher usually costs only three months' interest.
Variable Mortgages And The Five-Year Rule
A variable mortgage penalty is usually three months' interest, which is why the calculator ignores the comparison rate when you pick Variable. Confirm the clause, because some variable contracts differ. Separately, Interest Act section 10 says that on a mortgage with a term longer than five years, after five years the borrower can repay with three months' interest. That matters for rare seven-year and ten-year terms, not for the usual three and five-year terms.
Prepayment Privileges Can Shrink The Bill
Many closed mortgages let you pay down part of the balance each year without penalty through a lump sum or a payment increase. The percentages are in your contract. Using that allowance first lowers the balance that the penalty is calculated on, so it is worth asking whether the privilege is applied before or after the penalty is figured. Some lenders also let you port a mortgage to a new property or blend and extend, which can avoid a penalty altogether in the right circumstances. Ask each option's cost in writing.
Break Now Or Wait For Renewal
If the term ends within a few months, the cheaper route is often to wait. The cost of waiting is the interest you keep paying at the old rate, set against the penalty. Take the defaults again: with 24 months left at 5.29% and a replacement at 4.44%, the rate saving is 0.85 points. On $400,000 that is about $3,400 a year in interest at simple rates, so about $6,800 over two years, which is close to the penalty of $6,800. In that example breaking and waiting cost roughly the same, and with a posted-rate IRD of $11,200 waiting is clearly cheaper. Run your own balance through the mortgage renewal calculator to see what the new rate does to your payment, and read the renewal timing guide for when lenders let you renew early.
Many lenders also allow an early renewal inside the last 120 days or so with no penalty. Whether that window applies to you depends on your lender.
Common Reasons An Estimate Is Wrong
The balance is the first one. The penalty applies to the amount you are repaying, which may be the whole balance or only the portion above a prepayment allowance. The rate is the second: use the contract rate on your statement, which may differ from the rate you were advertised. A variable rate that has moved with prime is the rate in force today. At 3.83%, for example, three months' interest on $400,000 is $3,830, and at 4.70% it would be $4,700, so the date of the payout matters. The months left is the third. Count from the payout date to the maturity date, not from today to the end of the calendar year. The comparison rate is the fourth and the largest, and only the lender can tell you which rate it used and on which day.
A fifth, quieter one: penalties are not the only cost of leaving. A discharge fee, an administration fee and legal costs for the new mortgage can add to the bill, and the amounts vary by lender and province. Add them to the penalty before you compare the cost of leaving with the saving from a lower rate.
Ask For The Exact Figure In Writing
Before you act on any estimate, ask the lender for a payout statement that states the penalty, the method and the comparison rate used. Ask for it with a date, because the comparison rate moves daily. Then ask a licensed mortgage broker to price what a new lender would offer, since the saving is what has to beat the penalty. You can request cheaper rates and give the penalty figure you were quoted so the comparison starts from your real cost to leave. Understanding how the lenders work out the fixed payment also helps: see how mortgage payments are calculated.
Questions
How is a mortgage penalty calculated in Canada?
On a fixed mortgage it is usually the greater of three months' interest or the interest rate differential. On a variable mortgage it is usually three months' interest. The contract and the lender's disclosure set the exact method.
What is the difference between a posted-rate and a discounted-rate IRD?
The comparison rate differs. A discounted-rate IRD uses the lender's current rate for the remaining term. A posted-rate IRD uses the posted rate minus your original discount, which tends to give a larger penalty.
Can I avoid a mortgage penalty?
Sometimes. You can use prepayment privileges to lower the balance, renew early inside the lender's window, port or blend and extend, or wait for the term to end. Each has a cost, so ask the lender to quote it in writing.
Do the bank penalty calculators give the same answer as this one?
Not necessarily. Their own calculators use their contract method and their own comparison rate. This page gives an estimate, and the lender's payout statement is the number that counts.