How interest rate cuts impact your mortgage

After several years of ballooning interest rates designed to curb post-COVID inflation, the Bank of Canada (BoC) has begun cutting its benchmark rates. The January 2025 interest cut to 3% was the lowest since 2022¹— a welcome opportunity for potential home buyers and owners alike. As interest rates inch lower, so does the cost of borrowing, which opens up some much-needed movement in a tough housing market.

All this seems like good news, but how does it directly affect you? Whether you’re a potential buyer or an existing mortgage holder, this guide will take you through how these recent changes may impact your finances. Read on for help choosing the best type of mortgage for your needs—and learn when you should take out home financing.

The Bank of Canada is responsible, in part, for keeping inflation low and the economy stable, which means it has the ability to adjust the interest rate (also known as the benchmark rate, policy rate or overnight rate.) When the BoC raises the rates, borrowing money and paying down debt is more expensive, so people rein in their spending. This helps reduce demand and slows down the pace of inflation.

The BoC generally wants to keep the inflation rate within a target range of around 2%. However, you may recall that during the COVID pandemic, the inflation rate skyrocketed, peaking at 8.1% year over year in 2022.² When the inflation rate is that high, shoppers have less purchasing power for their money—which sure sounds familiar to anyone buying groceries at that time. For large purchases like a home, for example, the effect is even more pronounced.

Financial institutions use the Bank of Canada policy rate as a guide for their own interest rates, affecting how much interest you'll pay on your debt. This includes loans, lines of credit and mortgages. When the BoC rate is high, so is the cost of borrowing. And when the rate comes down, it may be an opportunity for Canadians to save money by reducing the interest they pay.

Since inflation has recently cooled, the BoC has started lowering its interest rates. The cut to 3% on January 29, 2025 was just the latest in a series of adjustments designed to bring the inflation rate to its 2% target.

Purchasing a home is one of the biggest financial investments a person can make. Most Canadians get into the housing market with the help of a mortgage, which is just another name for a home loan. When you take out a mortgage on a home, you agree to pay the principal amount of the loan back, plus interest. On a purchase of this size, any increase in the interest rate can make a difference.

Here's an example of how different interest rates impact the amount of a monthly payment for a mortgage with a 25-year amortization period:

*Above example created using the Scotiabank Mortgage Calculator with a “custom rate” option for the type of mortgage.”

In 2021, the Canada Mortgage Housing Association recorded a conventional mortgage lending rate of 3.30% on a 5-year term.³ In 2024, that number had jumped to 6.31%. Using a mortgage amount of $300,000 as an example, you can see the difference in the cost of borrowing is $509.00 monthly and over $6,000 per year. Note: In addition to the interest rate, this calculation will change depending on the type of your mortgage, your amortization period and other factors. You can see what your payments might look like with the Scotiabank Mortgage Calculator.

The reduced BoC policy rate is clearly good news for prospective buyers, but it’s only part of the picture. Here are some ways to keep household costs down when looking to get into the housing market:

• Lower purchase price/smaller mortgage
  The lower the cost of the home, the smaller the amount you’ll have to borrow.
• Bigger down payment
  The more money you can put into a down payment, the smaller your principal mortgage amount will need to be. Additionally, if you put 20% or more of your purchase price down, you won’t be required to purchase mortgage default insurance, which can add hundreds of dollars to your household costs annually.
• Improve credit score
  While everyday Canadians can’t affect the BoC’s policy rate, they can influence other factors that go into their mortgage rate.⁴ For example, lenders often give favourable (lower) rates to borrowers with a strong credit history.
• Type of mortgage
  Fixed or variable, open or closed. Different mortgages have different terms. Choose the right one for you.

If you’re already a mortgage holder, this drop in the BoC rate may also affect your loan, but how—and when—depends on the type of mortgage you have.

Like the name suggests, a variable rate mortgage is one where the interest rate changes over the term of the loan depending on the Bank of Canada’s benchmark rate. Scotiabank offers an adjustable payment variable rate mortgage (Scotia Flex Value Mortgage), which means that when that Scotiabank’s Prime Rate drops following a drop in the BoC rate, your monthly mortgage payment will also decrease.

Something you need to consider with most other financial institutions’ variable rate mortgage is that if the BoC rate increases, you’ll often need to increase your monthly payments to keep your chosen amortization period on track.  This is because if you have a variable rate mortgage with a fixed payment amount, when interest rates rise, you are still paying the same amount each month so more of your monthly payments is going towards interest instead of the principal.  Conversely, when interest rates fall, since you are making the same monthly payment, more of your payment goes towards paying off your principal.

However, if you have an adjustable payment plan on your variable rate mortgage, your monthly payment amount increases when the interest rate increases (and if the rates fall, your monthly payment decreases), which keeps your amortization on track.

Homeowners who took out a variable rate mortgage during the high-interest years may well see significant benefits as the interest rates fall. Those considering refinancing or taking out a variable rate mortgage now will need to think about whether they think the rate will go up or down in the future. Those who prefer stability in their monthly expenditures might prefer a fixed rate mortgage.

If you have a fixed rate mortgage, the interest rate remains the same until it’s up for renewal, no matter what the BoC does. This is a solid choice for homeowners who are satisfied with their interest rate and want to lock it in for an extended amount of time. On the other hand, it does mean that they won’t see a decrease in their costs when the interest rate comes down.

With the significant decreases in the BoC’s benchmark rate, you might consider refinancing your mortgage— the process of renegotiating the terms of your loan. How this works and what it will cost you depends on whether you have an open or closed mortgage.

With a closed mortgage, you may not be able to change the terms of the loan without paying a prepayment charge. A prepayment charge is a fee charged by the lender when the borrower pays off all or a portion of a mortgage more quickly than provided for in the mortgage agreement. This means that if you want to refinance your mortgage before the end of the term, you’ll likely need to factor in paying that charge.

An open mortgage often allows you to make changes without a prepayment charge, and the costs associated with refinancing tend to be lower. However, the flexibility may also come with other costs to consider: open mortgages tend to have higher rates than closed mortgages.

Depending on the rate you’re paying with your current mortgage, refinancing might be worth it—even with potential charges. If you want to see if you could save money on your mortgage payments, speak with a home financing advisor.

The best-case scenario for any home buyer or owner would be to make financing arrangements at the lowest possible interest rate. Unfortunately, there’s no way of knowing exactly when rates will hit their bottom. There are, however, strategies you can employ.

The Bank of Canada releases its quarterly Monetary Policy Reports, which provide an outlook on the Canadian economy and inflation, and its interest rate announcements eight times per year. You can sign up to receive these reports automatically.⁵

Your bank is also a valuable resource. Look for economic updates like this one on the Canadian economy in 2025 by Scotiabank’s Chief Economist to see what the pros are forecasting.

Keep in mind that with Scotiabank, you can begin the mortgage renewal process a full 180 days (6 months) before the end of your current term. This allows for solid medium-term planning to ensure you get the best available rates.

Mortgages and associated households are significant investments. You can leverage trends in the Canadian economy to strengthen your position and reduce your debt. If you're looking for help with your mortgage, ask a home financing advisor.