The choice between mortgage options is not always as straightforward as you might think. The most appropriate mortgage arrangements will depend on your individuals needs and circumstances, so it’s important to understand the options which are available to you. What is the “best deal” for a friend or family member may not necessarily be the “best deal” for you, so obtaining the expert guidance of one of our advisers will certainly help you through the decision-making process.

Fixed Rate Mortgages

Having a fixed rate means that regardless of what happens in the economy, what the Bank of England does with the Base Rate, or what the individual lender does with its Standard Variable Rate, your mortgage rate, and therefore your monthly payments, don’t change.  Rates can be fixed for anything from one year up to 10 years or more.  As a general rule, having a rate fixed for a shorter period (2 or 3 years) will get you a lower rate than a longer-term 5- or 10-year fixed.

How long you choose to fix your rate for will depend largely on your thoughts on what will happen to interest rates long-term and your attitude to risk.  If you think that rates may be high for the next couple of years but then will start to reduce, you might only want to have a short-term deal so that you can take advantage of future reductions.  If you think that the country is in for an extended period of increasing rates, you might be inclined towards a longer-term fixed so as to avoid your monthly payments getting out of control.

Advantages:

• Ease of budgeting due to the knowledge that your payments will not change during the fixed period.
• Peace of mind as your mortgage rate will not increase even if interest rates rise.
• Longer-term fixed rates have the added advantage of not having to pay the costs involved in re-mortgaging every two or three years.

Disadvantages:

• Falls in mortgage rates will mean that you may be paying more than you need to be.
• Early Redemption Charges will apply for at least the duration of the fixed rate period, limiting flexibility.
• There are generally arrangement or booking fees for a fixed rate product.
• Most fixed rates revert to  the lenders’ Standard Variable Rate at the end of the fixed rate period.  If interest rates have increased during your fixed period, this might be more than you have been paying which could lead to payment difficulties.
• Longer-term fixed rates have all of the same disadvantages as shorter-term ones, however they are enhanced, with the lack of flexibility lasting for longer and the possibility of interest rates rising during the fixed period increasing due to the longer period of time.

Tracker Mortgages

A “Tracker” mortgage is a variable rate product which is linked directly to the Bank of England Base Rate.  Your mortgage will track the Base Rate at a margin which will remain constant for the duration of the initial period.  Similar to a fixed rate, a Tracker product will have a period during which the tracking differential will apply.  This may be short-term, perhaps two or three years or longer term, sometimes a tracker for the whole life of the mortgage balance.

Also, like the fixed option, there will be penalties for early repayment of the mortgage during this initial tracking period.

To illustrate the point, if Bank of England Base Rate is at 2.0%, you might get a product which is marketed at Base + 1.5% for two years.  That would mean that your current pay rate is 3.5%.  If the Bank of England subsequently increases rates to 2.5%, your mortgage rate would also increase by the same margin, making your mortgage pay rate 4.0% along with the corresponding rise in monthly payments.  Similarly, if the Bank of England reduces the rates to 1.25%, your pay rate would also go down to 2.75% with your monthly payments getting cheaper as a result.

Advantages:

• You will benefit directly from any reductions in the Bank of England Base Rate
• Certainty of knowing that your mortgage rate will always go down in line with the Base Rate during times of rate reductions
• Some Tracker products can come with a “Cap” (also called a Capped Rate) which is a rate which will not be exceeded.  In the example above, if the product had a cap of 4.5% and the Base Rate increased beyond 3.0%, your mortgage rate wouldn’t increase past your cap of 4.5% regardless.

Disadvantages:

• Budgeting is less certain as your mortgage rate (and therefore your monthly payments) will increase in line with Base Rate rises.
• Some tracker products can come with a “Collar”, which is basically the opposite to a cap.  In the example above, if the mortgage has a collar of 2.5% and Base Rate drops below 1%, your mortgage rate will not reduce any further than the 2.5% collar.
• Early Redemption Charges will apply for at least the duration of the initial tracker period.  In the case of a Lifetime tracker mortgage, there may be an initial period during which an Early Redemption Charge may apply.  You should ensure you are fully aware of any such penalty period.
• There are generally arrangement or booking fees for a tracker product.
• Most tracker rates revert to  the lenders’ Standard Variable Rate at the end of the initial period which may be higher than your previous tracker product

Offset Mortgages

An offset mortgage allows you to offset any balances that you have in savings accounts with your mortgage lender against your mortgage.  The interest that you pay is only based on the difference, meaning that you can substantially reduce your payments and also the amount of time remaining on your mortgage.

For example, if you have a mortgage balance of £150,000 and a savings balance of £50,000 you can offset one against the other and the monthly payments that you make to your mortgage will be based on the difference, i.e. a £100,000 mortgage balance.

Advantages:

• Offers greater flexibility than a normal mortgage agreement and is useful for the self-employed and those with potentially large and irregular bonus payments.
• Amounts deposited into the offset savings account remain available to the individual to draw from in the future should the need arise.  Most lenders do not have this flexibility in their products and generally amounts overpaid are not able to be re-drawn in the future.  Because the amount is deposited into the savings account, it’s not technically an overpayment and can be withdrawn later.
• Interest on offset accounts is generally calculated daily so that any amounts paid into the savings element get you immediate benefit in interest savings.

Disadvantages:

• There is normally a premium for this additional level of flexibility.  You can expect an offset facility to be at a higher rate than the same type of mortgage without the offset.  For example, a tracker rate might be at Base Rate + 2%, whereas an offset tracker might be at Base Rate + 2.3%, a higher rate to reflect the extra flexibility you would receive.

Discounted Rate Mortgages

A Discounted mortgage is a variable rate which is very similar to a Tracker product, but instead of being based on the Bank of England Base Rate, this product is a discount off the lenders’ Standard Variable Rate.  The margin (the difference between your rate and the lender’s SVR) will always stay the same.

So, if the lender has an SVR of 5% and they are offering a 2% discount for the first 24 months, your initial payment would be based on a rate of 3%.  If they increase their SVR to 6%, then your rate would also increase to 4%, and your payments would see the corresponding rise.

Advantages:

• If the lender reduces its Standard Variable Rate, you will likewise benefit from a reduction in your mortgage rate.

Disadvantages:

• If the lender increases its Standard Variable Rate, you will likewise suffer an increase in your mortgage rate, leading to higher monthly payments.
• The lender can review its SVR at any point and make changes without being influenced by what happens to the Bank of England Base Rate.
• At the end of the discounted period (which is normally for two or three years) you will revert to the SVR which will inevitably mean an increase in your mortgage rate and thus your monthly payments.  This increase can be significant depending on the original discount you had been receiving.
• Early Redemption Charges will apply for at least the duration of the initial discounted period.