What is a Cash-back Effective Rate?April 14, 2015
“Cash-back effective rates” are a growing trend in the mortgage market. Simply put, they are a lower advertised rate that takes into account a cash rebate paid to the customer once his or her mortgage closes.
In other words, a cashback effective rate is the rate that is equivalent (in terms of total borrowing cost) to a lower contract rate with no cash back.
Different brokers may have different ways of calculating the cash back. intelliMortgage does so simply by determining the present value of the total interest paid over the term. We calculate this for both for your chosen lender’s contract rate (which is the higher of the two rates) and for intelliMortgage’s lower effective rate. The difference is then rebated to you on or before the 19th day of the month after your month of closing, or next business day if the 19th is a weekend or holiday.
If you’d like to check the math yourself, the interest differential (and hence cash back) is easy to determine with intelliMortgage’s cashback effective rate calculator. It tells you the fair present value of the interest cost difference between any two rates.
The nice thing about intelliMortgage’s cash back effective rates are that they actually work in people’s favour more than an “equivalent” contract rate. This is true because, with a cashback effective rate, the payment is a tiny bit higher—due to the slightly higher contract rate. If you use the cash back for an immediate pre-payment, you’ll end up paying more principal and less interest with every payment. That’s because the prepayment lowers the balance upon which all of your ongoing interest charges are calculated.
Long story short, cashback effective rates are a great way to help lower your overall borrowing cost. And don’t forget, you can save even more money if you use the cash back to pay off higher interest debt.