How to cope with a rate increase

There hasn’t been a Bank Rate increase since May 2007 – but the next one may arrive in weeks, says Sam Meadows

Two factors are coming together to make right now a crucial moment for home owners to review their mortgage. First, extreme competition between lenders means rates are keener than ever. Secondly, the Bank of England’s leading Bank Rate is expected to rise as early as November. This would cause mortgage rates to rise in turn, and so the window to secure a best-ever deal will close.

While the initial increase is expected to be small – a doubling of Bank Rate from 0.25pc to 0.5pc – it would be the first in more than 10 years, and it would inevitably cause mortgage costs to rise. Some borrowers on “variable” rates, including those “tracker” deals that move in line with the Bank Rate, could expect to see immediate increases in repayments – with some facing bills hundreds of pounds higher during the course of a year.

Just how low are mortgage rates?

In today’s market, the most popular deals are “fixed rate” mortgages where borrowers opt for a rate that is guaranteed not to move for a set period.

The lowest rate here is less than 1pc: Yorkshire Building Society’s two-year fixed-rate is 0.99pc (as long as you have at least 40pc equity or deposit).

Five-year fixed-rates are available at under 2pc (see case study, right), and others are even choosing to fix their rate for a mighty 10 years – at rates of around 2.5pc.

A mortgage spokesman at Moneyfacts, the comparison site, explained that increasing competition was the main cause for ever-better deals. “Just as we thought mortgage costs couldn’t get even lower, the competition in the market ramps up yet again.”

Providers want to get as much business written before the end of the year, she added, which is when the market typically slows. Wriggle-room: Scottish borrowers are in a better position to weather a rise in rates

Why are rates rising?

Numerous factors influence mortgage rates, including the Bank of England’s leading Bank Rate.

One major driver is the cost to the banks themselves of the money that they lend home owners. And this has risen. The cost to lenders of raising finance used for two- and five-year fixed-rate mortgages has doubled since the EU referendum last June.

Exactly how much more will borrowers have to pay?

“Those who are on their lender’s variable rates are highly likely to see rate rises rapidly reflected in their payments,” said David Hollingworth, a mortgage specialist at broker London & Country. “It’s not a devastating amount,” he said, but pointed out that it could be the first of successive increases. “It will mean mortgages will get more expensive – but we are coming off an all-time low.”

According to Mr Hollingworth’s calculations, assuming the mortgage rate rose from 2pc to 3pc, someone repaying £150,000 would see their monthly payment increase by £75, from £636 to £711. A larger mortgage of £200,000 would result in a monthly increase of £101.

Not everyone is so convinced that mortgage rates will rise sharply, however. Mark Harris, of broker SPF Private Clients, said the market had been trying to anticipate this moment for years – and called it too early. “Even if rates do go up, they won’t do so very quickly,” he said.

Your options

The safest course for many will be to insure against increases by fixing their rate now.

Most lenders will offer existing borrowers who are on a variable rate a fixed rate for periods of two, three or five years. Depending on your circumstances, you could also remortgage with a different lender, although this might cost more due to a lengthier process involving more legal work and valuations. Someone whose current fixed deal is within six months of ending may want to consider whether to get a new fixed deal now, before rates rise. Most lenders will keep mortgage offers open for three or six months – giving an extra safety margin.

Mr Hollingworth said: “Fixing is the obvious thing to do but you still have the question of how long to fix for. I think you will see more people considering a five-year fix. The 10-year will remain very niche.”

He added: “If you are in a fixedrate deal now and looking ahead, just consider that you can lock into a deal as much as six months ahead. If you can’t get out without an exit fee, you may still be able to secure a rate.”

Mr Harris echoed Mr Hollingworth, but also suggested that those on “lifetime tracker” mortgages consider an exit now, while rates remain so low. Lifetime trackers, which are now rarely sold, move in line with the Bank Rate, meaning they have represented an exceptional deal for most borrowers in the recent period. But a series of rate rises could make them much more expensive.

“I think more people will be saying, ‘now is the time, let’s switch

‘In London mortgage repayments eat up over half of first-time buyers’ income’

and not miss the best fixed rates’.”

There are, of course, risks to fixing your deal, the biggest of which is that rates might yet fall further. This seems highly unlikely particularly given – as above – the rise in the cost of funding for banks.

What will higher rates mean for house prices?

In the past, rising mortgage costs have been a major factor in bringing down house prices. This is because affordability of housing falls if the costs of servicing mortgages go up. First-time buyers, who tend to borrow high proportions of the property value, are especially at risk of rising rates.

Nationwide Building Society, the biggest mutual lender, conducted a range of research into house price trends, including affordability, and this shows huge variation by region. In London, for example, mortgage repayments are currently 55pc of first-time buyers’ takehome pay. In Scotland, where affordability is greatest, first-time buyers are committing just 20pc of their income.