How is a mortgage penalty calculated in Canada?
For a fixed-rate mortgage, Canadian lenders charge the greater of two amounts: (1) three months of interest on your balance, or (2) the Interest Rate Differential (IRD). The IRD compares your contract rate to the lender's current rate for the remaining term. Variable-rate mortgages almost always use the simpler three-month interest penalty.
What is the Interest Rate Differential (IRD)?
The IRD is the difference between your original mortgage interest rate and the rate the lender can charge today for a term matching the time left on your mortgage, applied to your balance for the remaining months. When rates have fallen since you signed, the IRD can be tens of thousands of dollars — far more than three months of interest.
Why is my big-bank penalty so much higher than expected?
Major Canadian banks calculate the IRD using their higher 'posted' rate rather than the discounted rate you actually received, which inflates the penalty. Monoline and credit-union lenders often use the discounted rate, producing much smaller penalties. Always request the exact payout statement from your lender.
You can often reduce it by: porting your mortgage to a new property, using your annual prepayment privilege (typically 10-20%) before breaking, timing the break near renewal, or 'blending and extending' your rate. A mortgage broker or real estate lawyer can confirm the cheapest path for your specific contract.