Should you fix your mortgage?

3 June 2009

Whether you are looking to buy a property or need to remortgage, the question on everybody’s lips is whether tracker mortgages are still worthwhile or if now might be the time to fix.

The Bank of England’s dramatic base rate cuts between October last year and March prompted a surge in the popularity of tracker-rate mortgages, as borrowers chased the opportunity to pay as little as 0.1% on their loans. However, the central bank’s Monetary Policy Committee (MPC) has held the base rate at 0.5% since then, and it is extremely unlikely that it will fall any further.

The jury is still out as to how long the MPC will keep the base rate at 0.5% before this rises again to a more 'normal' level. Much depends on the outlook for inflation; if this increases sharply as a result of quantitative easing measures and the spike in oil costs, then the central bank could respond by raising rates.

However, if the British economy remains weak and shows little sign of improvement, then the base rate may well be kept at its current level (or, at least, at a low level) to help encourage a recovery.

But what does this mean for mortgage borrowers? Is it still worth opting for a tracker-rate mortgage and enjoying the historically low base rate while you can - or should you fix now to avoid suffering when the interest rate finally does increase?

According to research from Abbey, demand for variable mortgage products has almost halved since the start of the year. In May, 73% of those questioned believed that the base rate had bottomed, renewing appetite for homeowners to secure a fixed rate.

Nici Audhlam-Gardiner, director of mortgages at Abbey, says: "Fixed rates are firmly back on the agenda for those looking to remortgage. As mortgage borrowers realise that variable deals will no longer fall further, it seems that many are now trying to work out when rates will rise again and how long to fix their rate for.”

During the first three months of the year, when the base rate was still falling, fixed-rate mortgages looked expensive compared to their variable counterparts and mortgage brokers forecast they would fall in price going forward.

However, the cost of fixed-rate mortgages are now “off the floor”, according to Ray Boulger, senior technical adviser at John Charcol mortgage brokers, meaning they are now unlikely to get any cheaper. “We’ve probably already seen the cheapest fixed deals we are going to, and borrowers are now looking at paying a premium of 1% above the cost of a lender’s funding until the economy improves,” he adds.

Whether you should fix now, or continue to enjoy a cheaper tracker rate for a while, depends on your circumstances and your outlook for the base rate, says Boulger.

He believes that if you have at least 40% equity in your home (meaning your mortgage’s loan to value ratio, or LTV, is 60%) then it might be worth taking a gamble and sticking with a tracker or your lender’s standard variable rate (SVR). However, there are two risks associated with doing this.

First of all, you need to be on the ball. If the base rate does rise and you are still tracking it then it will probably be too late to bag a fixed-rate bargain, as lenders will have already upped their rates in anticipation. However, David Hollingworth, spokesman for London & Country mortgage brokers, points out the savings you make while the base rate is low might offset the higher cost of a fixed down the line. There is no guarantee over base and mortgage rate movement, however, so this is a gamble.

Another downside is that, if your property falls in value, you could be pushed onto a higher LTV band – generally speaking, the best mortgage rates are reserved for people looking to borrow 60% and anyone with less than 10% equity or deposit might struggle to find a deal.

“One way to avoid this is to overpay on your mortgage while your rate is low,” says Hollingworth. “Again, this might not be enough but it makes sense to use the opportunity of low interest rates to try and reduce your mortgage debt.”

New buyers, however, are probably best off fixing now rather than risking taking a tracker for a couple of years, says Boulger.

Hollingworth agrees: “Opting for a tracker-rate mortgage could see your monthly repayments increase in response to base rate rises in the future. If you can afford this, then you might be attracted to trackers but stress-test your budget first – if you can’t afford higher payments then fixing now is probably your best bet.”

So, whether you’re remortgaging because your previous mortgage’s discount period has ended, moving house or buying for the first time, how long should you fix for?

Again, it depends on your outlook for the base rate. This is impossible to call, but predictions from the Bank of England suggest it could remain low (below 2%) for a couple of years.

For Boulger, this means that there is little point in opting for a two-year fixed rate. Instead, he suggests people look at five and seven-year deals. “You’ll pay more for the first couple of years with a longer-term fixed-rate but this approach has the potential to be cheaper down the line,” he explains.

For example, one of the best two-year fixed rates on the market right now is Marsden Building Society’s 3.39% offering, available up to 60% LTV with a £1,098 and free valuation and legals.

Elsewhere, HSBC offers a five-year fix at 4.39% up to 75% LTV with a £999 fee and free legals.

If you borrowed £100,000 from Marsden rather than HSBC then you would save 1% - or £2,000 – for the two-year period. “But there is no guarantee how much more you face paying after two years,” says Boulger. “It’s a dangerous game to play.”

Of course, the downside of fixing for five or seven years (or longer) is that your circumstances might change during that time. While most mortgages are portable, meaning you can move them from one property to another, this isn’t as easy as it sounds.

For example, if you are planning on moving up the ladder but don’t have money to hand to pay for this, you run the risk of your lender refusing your request for a further advance. Equally, changes to your employment or credit history could leave you stuck.

“If you decide you’re better off redeeming your mortgage early, then chances are you’ll have to pay an early repayment charge, which is typically 3% of the money borrowed,” says Hollingworth.

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