Demystifying Interest Adjustments when closing a home

Sometimes first time buyers are confused by an extra closing cost they maybe did not anticipate called an Interest Adjustment. A client asked me this question earlier in the week:

I wanted to know from when I need to start making my mortgage payments. Based on the schedule you had provided earlier, the payments have to be made from the 1st of December. Correct? If that is the case, how come I won’t be paying starting November given that the closing happens on 28th of October. I am a little confused. Let me know when you have a moment.” 

Here is my answer:

“Unlike your rent or cell phone bill which you pay each month in advance, your mortgage payment is made after the fact. In other words, on November 01, 2015 you might make your payment for the month of October.

So what happens is you will prepay a few days’ interest on your closing date – it is called an interest adjustment (to address the stub period between closing and November 01) and your lawyer should explain all that when you go into sign papers.”

How do interest adjustments work?

The next section of this article is from my colleague Rob McLister’s website Canadian Mortgage Trends.

Interest adjustment dates tend to commonly fall on the 1st day of the month after mortgage funds are advanced to the borrower. For example, suppose you close your mortgage on October 25th and have signed up for monthly payments. Here is how the dates might stack up:

  • October 25: Mortgage starts (a.k.a. the closing date)
  • November 1: Interest adjustment date
  • December 1: First payment date
  • Your first full payment on December 1 will therefore be based on the interest that accrued since your interest adjustment date (i.e. from November 1 to November 30 )

{If you plan to make bi-weekly payments, then instead of one month after, your first payment would be two weeks after the interest adjustment date.} Lawyers and notaries routinely collect interest adjustments at closing. Confirm this when you discuss your closing costs with them.

Keep in mind, it is possible to avoid interest adjustments altogether. To do so, you need to schedule your first mortgage payment exactly one payment period (e.g. one month) after your closing date.

Thanks again, Rob….I saw no point in reinventing the wheel here; he explained it very well.

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