Mortgage Basics

Your Complete Guide to Mortgage Basis Points

Your Complete Guide to Mortgage Basis Points
Written by
  • Tvine Donabedian
| 17 March 2023
Reviewed, 23 March 2023
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    When shopping for a mortgage in Canada; you may come across the term “basis points” or “BPS.” But what does this term mean, and how does it impact your mortgage? And what exactly is a basis point? Here’s our complete guide to mortgage basis points to help you make more informed decisions about your mortgage.

    Key Takeaways

    • Basis points (BPS) are an effective way of calculating whether or not your mortgage payment will be affected by the Bank of Canada (BoC) interest rate changes. 
    • Even a slight increase or decrease in BPS can significantly impact the mortgage market.
    • One basis point is always equal to 0.01%. 

    What is a Basis Point (BPS)?

    To put it into simple terms, a Basis Point (BPS – pronounced “bips”) is a standard unit of measurement used to calculate changes in mortgage interest rates. A basis point is 1/100th of a percentage point and can be expressed as 1BPS,1 bps, 0.01%, or 0.0001. 

    How Much is a Basis Point?

    One basis point is one one-hundredth of a percentage point. This is equal to 0.01% or 0.0001. For example, a 25 basis points increase is equal to 0.25%. 

    So, say you have a mortgage with an interest rate of 5%, and there is a 25 basis point increase; your new interest rate will be 5.25% (5 + 0.25 = 5.25). If the rate were to decrease by 25 basis points, your new interest rate would be 4.75% (5 – 0.25 = 4.75).

    Why Use Basis Points Instead of Percentages?

    Basis points remove misunderstandings around percentages and enable financial experts to explain minor rate changes quickly and easily without misinterpretation. Using a percentage to explain changes may create confusion when discussing data. For example, if expressed as a 1% increase on your 5% interest rate – this could be interpreted as either 5.05% or 6%. Expressing this instead as a 100 basis point increase (1.00%) eliminates the potential for misinterpretation. 

    How Do Basis Points Work In Mortgages?

    Lenders use basis points to express small changes in interest rates. Even the slightest percentage change in the interest rate could significantly impact your mortgage payment. The cost of borrowing money from a lender is represented by the percentage you pay for a given period.

    For example, a one percent increase (100 basis points) in the interest rate on a $300,000 mortgage with a 25-year amortization would add $112.50 to your monthly payment. 

    For example, a 1% (100 bps) increase in the interest rate on a $300,000 mortgage with a 25-year amortization period would result in an additional $168.77 monthly payment.  (In this example, using an increase from 4.25% to 5.25% with a respective payment change from $1,618.98 to $1,787.75.)

    Minimal changes in basis points may have little impact on your mortgage payments. Still, much larger changes in basis points could result in significant increases or decreases in your monthly mortgage payments.

    How Are Basis Points Calculated?

    Basis points are calculated quite simply once you can convert them into percentages. To calculate BPS, it’s important to remember that 1 basis point equals 0.01% or 0.0001. This means when converting basis points to percentages, you would divide by 100, and to convert to a decimal; you would then divide the percentage again by 100. To convert back to a basis point, you would multiply the decimal by 100 to get the percentage and again multiply the percentage by 100 to reach the basis point. 

    You can use the chart below to see how basis points easily convert to percentages and decimals.

    Basis Points Conversion

    Basis Point Percentage Decimal
    25bps 0.25% 0.0025
    50bps 0.5% 0.005
    100bps 1% 0.01
    110bps 1.1% 0.011
    125bps 1.25% 0.0125
    150bps 1.5% 0.015
    175bps 1.75% 0.0175
    200bps 2% 0.02

    Calculating Basis Points and Fixed-Rate Mortgages 

    With fixed-rate mortgages, the interest rate remains the same over the entire mortgage term. If rates were to increase by, say, 25 basis points, a fixed-rate mortgage wouldn’t be affected until the term has ended and it’s time to renegotiate. 

    For example, if you have $300,000 remaining on your mortgage – a 5% mortgage rate with a 25-year amortization would equate to monthly payments of $1744.81. Meanwhile, a 5.25% mortgage rate with a 25-year amortization would equate to monthly payments of $1787.75. This means you would pay $42.94 more monthly in mortgage payments with a 25 basis point increase.

    Calculating Basis Points and ARMs

    With adjustable-rate mortgages, the interest rates can change over time. If rates have increased by 50 basis points, you will calculate the new interest rate by adding 50 basis points or 0.5% (0.005). Say your interest rate is 5% – to calculate your new interest rate, you would add the 50bps to determine the new interest rate. 

    5.00% + 0.5% = 5.5% 

    Your new interest rate would be 5.5%.

    Interest rates on ARM mortgages can change throughout the term, and the Bank of Canada Key Policy Rate changes will determine the frequency and amount of these changes. Interest rates can increase or decrease based on the Bank of Canada’s benchmark rate. Your monthly payments would also increase or decrease when the interest rate changes. If interest rates go up – you may need to budget for higher mortgage payments, and if interest rates go down – you will have lower mortgage payments.

    Why Are Basis Points Important?

    Basis points influence several financial instruments in Canada. For example, bonds, stocks, and mortgages use basis points to express rate changes. Changes to interest rates, even slight ones, can significantly affect economic development. For example, a small shift in interest rates can mean a big difference in the mortgage and housing industry.

    How To Use Basis Points

    Basis points are one of the smallest units of measurement for financial instruments to express changes in yields or interest rates. Banks and other financial institutes commonly use them to aid in calculating and communicating changes in rates. BPS is commonly used to quantify changes to instruments you may already be familiar with, such as:

    • Stocks
    • Bonds
    • Loans
    • Mutual funds
    • Options
    • Mortgages

    Basis points can also be used to provide valuable insight into key economic decisions and events. BPS may also be used to understand and better compare options when making personal financial decisions, such as when looking for instruments to invest your money or determining the best interest rates when looking for a mortgage.

    FAQ

    How do changes in basis points affect my monthly payments?

    Any change in basis points may affect your monthly payments. If rates increase by a certain amount of basis points, your payments may increase. If rates decrease by a certain amount of basis points, your payments may also decrease. It’s important to note that monthly payments will only change if you have a specific type of mortgage, and even then, the exact rate changes will depend on your mortgage terms.  

    How much does 1 basis point save on my mortgage?

    A $300,000 mortgage with a 25-year amortization with a current interest rate of 5% would require a monthly payment of $1744.81. 

    If the interest rate were to increase by 1 basis point, the new interest rate would be 5.01% and require a monthly mortgage payment of $1746.52. This means your payments would increase by $1.71.

    If the interest rate were to decrease by 1 basis point, the new interest rate would be 4.99% and require a monthly mortgage payment of $1743.11. This means your payments would decrease by $1.70.

    While this may not sound like a significant amount – a 1BPS decrease on your mortgage can add up to a lot of savings over the long term.