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Open vs. closed mortgage: What's the difference?

This post was first published on July 27, 2020,and was updated on April 30, 2024.

Every borrower is different, and we all have specific needs when buying a home, depending on our own financial situations.

The mortgage market caters to this with mortgage products that come in lots of different shapes and sizes: closed, open, variable-rate, fixed-rate, 3-year, 5-year, 10-year… you get the picture.

One of the most important decisions you’ll need to make when applying for a mortgage is whether you want an open vs. closed mortgage. These mortgage types are designed with different borrowers in mind and can result in significant savings (or costs) if you choose the wrong one. That’s why it’s important to make the right choice! Here’s what you need to know to get started.

Also read: Is a short-term mortgage rate right for you?

Open vs. closed mortgages

An open mortgage is one with flexible options to increase your mortgage repayments, either by increasing your regular payments or via a lump sum. A closed mortgage, on the other hand, will penalize you for paying off all or part of your mortgage early (with some exceptions; some products allow up to a certain percentage annual lump sum or monthly prepayment to be made, for example). While pre-payment penalties can be significant, closed mortgages also come with much lower interest rates than open mortgages.

Also read: Should I pay off my mortgage with a lump sum, or invest?

In Canada, closed mortgages are more common because they offer lower interest rates, and most people don’t need the extra flexibility of an open mortgage. Open mortgages are generally used when you are expecting to receive additional cash to pay off your mortgage. This might be due to an inheritance, proceeds from the sale of a home, or a significant increase in your income.

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Pros and cons of open and closed mortgages

The table below lays out the pros and cons of both open mortgages and closed mortgages.

 

Choosing the right mortgage type for you

For most Canadian homeowners, a closed mortgage offers the best value. The additional flexibility of an open mortgage isn’t needed for most of us, but closed mortgages come with significantly lower rates, which will save you a significant amount of money over your mortgage term.

However, if you expect to receive additional money in the near future that you’d like to use to pay off your mortgage, the flexibility of an open mortgage might be worth it for you. Here are a few situations where you might want to consider getting an open mortgage:

  • You will soon sell your home: If you intend to sell your home and pay off your mortgage with the proceeds from the sale, you should consider an open mortgage. Paying off an entire closed mortgage can trigger significant pre-payment penalties.

  • You have an inheritance on the way: If you expect a cash inheritance soon, an open mortgage will allow you to use that cash to pay off a lump sum of your mortgage with no, or minimal, penalty.

  • Your income is about to increase: If you expect your household income to soon increase (e.g. from a promotion or someone re-entering the workforce) then an open mortgage will give you the ability to increase your regular mortgage payments without penalty.

  • There’s volatility in the mortgage market: If rates are rising rapidly, for example, and you think you may need to make changes to your mortgage term in the near future such as making a lump sum, or breaking your mortgage altogether, going with an open mortgage first can be the right fit for some borrowers.

Getting a variable closed mortgage

It’s worth noting that closed mortgages with variable rates tend to have lower pre-payment penalties than closed mortgages with fixed rates (here’s more on how pre-payment penalties are calculated). In some cases, your best option might be to take a closed mortgage with a variable rate. This can give you some of the lowest mortgage rates available while somewhat limiting the potential size of your pre-payment penalty, in case you need to refinance or pay off your mortgage.

The drawback of this option is that you’ll be exposed to changes in prime mortgage rates, which could increase your regular payments throughout your mortgage term. This is especially important to keep in mind when interest rates are on the rise, over the course of 2022 and much of 2023; the Bank of Canada increased its trend-setting Overnight Lending Rate a historic 10 times between March 2022 and July 2023, bringing the benchmark cost of borrowing up to 5% from 0.25%. As a result, someone who had a variable-rate adjustable mortgage in March 2022 has seen their rate increase by 4.75% over that timeframe. While it is now expected that the central bank may cut interest rates in the second half of 2024, it’s unlikely those with variable mortgage rates will see their borrowing costs come down down significantly in the near future.

Read: Variable or fixed-rate mortgage

Want a better mortgage rate?

Compare the best mortgage rates available

see today's best rates

The bottom line

There are lots of factors you need to consider when shopping around for a mortgage, and the decision you make can mean a difference of thousands of dollars, either in interest or pre-payment penalties. As such, it’s important you make the right choice!

If you need help deciding which mortgage is best for you, you should consider speaking to a mortgage broker who can give you expert advice, at no cost or obligation to you. 

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