Each week, Metro’s consumer champion, Sarah Davidson, tackles your burning mortgage questions.
Last week she helped a woman who was struggling to pay the mortgage on her buy-to-let on top of her home.
This time she is breaking down the differences between a tracker (or variable) mortgage and a fixed rate mortgage.
Let’s see what she has to say…
One part of our mortgage ends in January 2023. We have found ourselves over the past week swept up in the frenzy to get a fixed rate deal in the bag. Having taken 24 hours to pause, we have started to consider if this decision is driven by panic and not sense.
Rates for a tracker deal have become more enticing and the prospect of following the thrill of the unknown of a variable rate less sickening than fixing at what for us today stands at a 5.88% rate compared to the 1.75% we leave behind.
Are we crazy to consider a tracker? Does anyone really know what the next two years will see the Bank of England base rate peak at?
Louisa Viola, by email
What Sarah says:
Fixed rate mortgages are having a torrid time and the Bank of England base rate is just one factor affecting their price. In the wake of the Liz Truss/Kwasi Kwarteng mini budget, markets went haywire and banks began to charge each other much more expensive borrowing rates.
Fixed rate mortgages are priced against those interest rates – hence why they shot up so quickly.
Last week several lenders cut their mortgage rates back down, some by around 0.5%, after markets were reassured by Jeremy Hunt’s appointment as Chancellor and Liz Truss’s resignation as PM.
Tracker mortgages, also known as variable rates, have not seen nearly as much volatility, because they are typically linked to the Bank’s base rate, currently 2.25%.
This protects the lender against rising market rates eating into their profit margins but it also puts you at risk if the Bank hikes rates again. It is likely to do that later this week, perhaps by as much as 0.75 percentage points.
Tracked vs fixed mortgages
Let’s look at what rising rates means for a £160,000 mortgage on a home worth £200,000 on a 25-year term.
First Direct currently has an 80% loan-to-value lifetime tracker priced at base rate plus 2.39% with a £490 fee, meaning a pay rate of 4.64% and monthly repayments of £902. If the base rate goes up to 3%, monthly repayments would go up to £972.
The best two-year fix is now 5.64% with a £1,354 fee from Bank of Ireland, meaning monthly repayments of £996 until December 2024.
Top five-year fix is from First Direct at 5.44% with a £490 fee and monthly repayments of £977 until 2027.
Will interest rates go up a lot more?
It will depend largely on how quickly inflation falls. If Russia continues to limit oil and gas supplies to the West, energy costs will stay high, pushing up the cost of goods bought from any company facing higher energy bills.
Import costs have risen in part due to Brexit, but also because the pound has been weakened by the merry-go-round in Westminster.
Compounding all of this is the hangover caused by the Bank pumping hundreds of billions of pounds into the economy in the past decade, especially through the pandemic.
The Bank’s task is to return inflation to 2% but it’s currently running at 10.1%.
So is a variable rate best?
It depends on your plans. When your deal ends you will almost certainly transfer to your lender’s standard variable rate (SVR) by default. Set by the lender, these usually track the base rate, so as rates rise, so will your payments.
The plus is, you can delay your remortgage – but your payments are likely to jump a lot and keep rising at the lender’s discretion. Most SVRs are 5.75 to 6.5% but some are 12 to 15%.
Lifetime and some fixed term tracker rate mortgages usually come with no early repayment charge (ERC). They’re the ultimate if you want flexibility as opposed to certainty.
On a fixed rate, most lenders charge a percentage of the outstanding mortgage balance if you move house or change the terms of your deal; for example, to borrow more.
On a five-year fix, if you break the deal in the first year you’ll likely pay a 5% penalty – £8,000 on a £160,000 mortgage – falling to 4% in the second year, 3% in the third, 2% in the fourth and 1% in the fifth.
Some lenders will waive the 1% for the last six months if you remortgage with them. If you might want to move reasonably soon, a tracker rate’s probably best.
Fix later on
Fixed rates hit more than 6% after the mini budget, falling again a couple of weeks later to around 5.5%.
Unless your financial circumstances change materially, taking a tracker with no ERC means you can effectively delay whether you want to fix any time in the future if those rates come back down.
The Bank expects inflation to peak at 11% for October, stay above 10% for a few months and then start to fall, reaching 2% in 2024.
That sort of economic stability could bring bank funding costs, and thus mortgage rates, down.
It’s a gamble
Less than a year ago the Bank of England didn’t think inflation would get so high. Vladimir Putin changed that overnight when Russia invaded Ukraine. Anything can happen.
Look at what you can afford
If you go for the tracker, make sure you can still afford the payments even if the base rate rises to 5.25%.
On the tracker mortgage from First Direct, that would mean monthly repayments of £1,197. But there is a way to bring that down.
Depending on your age and lender, if you extended the term to 40 years the tracker rate would mean monthly repayments of £1,067 with base rate at 5.25%.
Longer terms mean you pay a lot more interest, but on a tracker with no ERC you could fix later on and bring the term back down to 25 years.
Free and confidential help
StepChange Debt Charity: 0800 138 1111
PayPlan: 0800 280 2816
National Debtline: 0808 808 4000
Citizens Advice: 0800 144 8848
Debt Advice Foundation: 0800 622 61 51
Turn2Us: 0808 802 2000
Got a mortgage question for Sarah? Get in touch by emailing [email protected].
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