With interest rates at record lows, it seemed only a matter of time before mortgage rates dropped below 1%. While there have been a few products available below this mark for a couple of months now, many mortgage lenders have dropped rates this week and the news has not been missed by the market commentators. Money Saving Expert, the company founded by Martin Lewis, led with the news on their “Money Tips” email and Mortgage Strategy, an industry news platform, have been reporting on falling rates all week.
In this blog, we want to add our thoughts to the mix and provide a more in-depth insight into mortgage interest rates. Low and falling interest rates are certainly a great thing in terms of cheap borrowing and keeping our mortgage payments down. However, first it’s important to understand who will have access to these kinds of exceptionally low rates. You’re not going to be able to put down a 5% deposit as a first-time buyer and be offered 0.99% with no fees…
Mortgage rates are linked to your Loan-to-Value (LTV) which represents the percentage of your property which is mortgaged. The lower the LTV, the better the mortgage products available to you. Products generally improve for every 5% extra equity you have until you have 40% equity (60% LTV), after which products are the same. It is only these people who have at least 40% equity in their property or are putting down a 40% deposit or more who will be accessing the lowest mortgage rates available. For those people in this situation, whether you’re buying, remortaging and even if you’re a first-time buyer, there are several lenders now offering rates below 1%.
Now why is it not all about the interest rate?
Fees – the most impactful being a product/arrangement fee that you have the option to pay upfront or add to the mortgage. Fees affect what is the “true cost” over the initial period. While there is a plethora of mortgage products available to meet various needs, for most people, the initial period is usually a 2- or 5-year period for which the headline interest rate is fixed. Therefore, the “true cost” relates to how much you pay in this period. The true cost is predominantly dependent on the interest rate and fees.
Bank’s structure their mortgage products such that the lowest interest rate available has the highest fee and the highest interest rate has the lowest fee. With all other components being equal, the size of your mortgage will affect which option has the lowest true cost. The larger the mortgage, the more likely you are to go for the lower rate with a higher fee as the amount saved in interest becomes greater than the effects of the higher fee.
This scenario, using real mortgages products available at the time of writing, illustrates the above point.
- A client is looking to remortgage a balance of £250k on a 2-year fixed over a 20-year term
- A 0.99% rate with a £1,495.00 product fee has a true cost of £29,061.88
- A 1.29% rate with no product fee has a true cost of £28,141.88
In this scenario, despite a 0.3% difference in interest rates, the mortgage would have to be over £500k before the 0.99% mortgage product became the cheapest over the initial 2-year fixed period. And remember, not only would the mortgage need to be over £500k, but these products are only available with a 40% deposit or more so, the property would need to be worth almost £850k too. You can see why these products shouldn’t be advertised as suitable for all…
If you ever hear anyone say “it’s all about the interest rate” in relation to a mortgage, please run a million miles from their feeble attempt at advice. With all things being equal, of course a lower interest rate will be cheaper but there are many more components of a mortgage product than just the interest rate.
Further to what we’ve mentioned in this blog, other fees and cashback affect the true cost over the initial period. If you’re looking to remortgage to a lower interest rate or start a new mortgage when you move home, it’s important to consider any early repayment charges (ERCs) on your existing mortgage too. ERCs are often payable if you leave the mortgage before your initial period finishes. Therefore, switching to a lower interest rate and having to pay ERCs can often be more expensive than keeping your existing mortgage. The grass isn’t always greener – if you’re unsure or want clarification, we’re here for free, professional advice.