Since December 2021, the Bank of England has raised the UK interest rate 12 times in a row. The cost of mortgages has increased as a result, among other things.
As a result of predictions that the base rate will increase from its current level of 4.5% to 5.5% this year, numerous lenders have increased mortgage rates and eliminated deals. An average two-year fixed-rate plan will cost £35 more per month in early June than it will in mid-May.
You must choose how long you are willing to commit for if you are thinking about getting a fixed-rate mortgage. Although you can acquire some that run even longer, most lenders provide offers that last two, three, five, and 10 years.
Understanding mortgage terms and fixed-rate agreements
Understanding the variations in offers and conditions is crucial when it comes to mortgages.
What is a term in a mortgage?
The length of the mortgage is the loan's life. It provides you with a timeline for when the total mortgage will need to be paid off.
For first-time purchasers, a mortgage length of 25 years used to be typical, but due to rising home prices, many now choose a 30-year mortgage term or longer.
According to Moneyfacts, two-thirds (67%) of mortgages have a typical maximum duration of up to 40 years, an increase from 50% four years ago.
The mortgage installments will be stretched out over the course of a longer loan term, which will make them more manageable on a monthly basis. However, because you will be paying interest over a longer period of time, the total cost of the loan may increase.
Consider a £200,000 mortgage with a 5% interest rate throughout the course of the loan.
- 25 years or more
- Payments each month = £1,169.18
- £350,754 in total mortgage payments
over thirty years
- Repayments every month equal £1,073.64
- Total amount paid towards mortgage: £386,513
While you will pay £1,146.48 less a year, or £95.54 less every month. You'll owe an additional £35,759 in total.
What is a mortgage arrangement with a fixed rate?
It's crucial to distinguish between a fixed-rate agreement and a mortgage term. The interest rate in the aforementioned case was specified as 5% for the duration of the mortgage. In actuality, your payment will fluctuate during the course of your mortgage.
Most consumers choose a mortgage with a fixed rate for two, five, or even ten years. This indicates that for that long a period of time, the monthly interest payment remains constant.
When their current fixed-rate agreement expires, many consumers move to a new one. This is to prevent them from moving up to the costly standard variable rate default tariff offered by their lender.
Even though many homeowners have mortgages with 30-year terms, this doesn't stop them from signing up for new fixed-rate contracts every few years.
Lenders will occasionally offer fixed rates for longer than 10 years, but this is uncommon and has drawbacks, which we discuss in this post.
Should I obtain a mortgage with a five- or ten-year term?
Mortgage rates have risen as a result of each increase in the Bank of England's benchmark interest rate since December 2021.
The benchmark interest rate was hiked by the Bank of England to 4.5 percent on May 11.
Following the mini-budget, rates reached their peak in October 2022, when the typical two-year fixed mortgage arrangement had a rate of 6.55%. As a result of updated predictions that the Bank of England could raise rates to 5.5% in 2023, mortgage rates initially declined but have since risen.
Moneyfacts estimates that the average two-year fixed rate contract for a mortgage of £200,000 with a 25-year duration is 5.64%. Prior to the most recent inflation statistics, the number was 5.34%.
Homeowners could only obtain mortgages with interest rates below 1% a few years ago.
As lenders examine their packages, hundreds of mortgage offers have also been taken from the market. The current mortgage rates are described in our guide.
If you're trying to determine how long your mortgage will last, ask yourself these questions:
In two, five, and ten years, do you anticipate that rates will be higher or lower?
It's crucial to keep in mind that the future course of mortgage rates cannot be predicted. But it's important to keep in mind that interest rates right now are extremely high. To try to stop inflation, the Bank of England keeps them high.
There might, however, be hope at the end of the road. Inflation will decline until 2023, according to the Bank of England. When this occurs, it is predicted that the basic interest rate will decrease. It is reasonable to anticipate that this will lead to a decrease in mortgage rates.
It's tough to forecast how much they might drop, though.
Since long-term fixed rate mortgages are normally only accessible to those with sizable down payments, first-time buyers, who sometimes can only afford a 10% down, haven't typically found them to be helpful.
You would miss out on lower interest rates that would become available as your home's equity increased if you were to lock in a high rate and stick with it for the duration of the mortgage.
Keeping your mortgage contract in place for a long period can have benefits, but it's also crucial to keep in mind that anything can happen to the economy in the years to come.
What benefits do long-term fixed-rate mortgages offer?
1. Consistent repayments
A longer-term fixed deal's major benefit is that your monthly payments are consistent for the course of the agreement.
It implies that you are free from concern over what is taking place in the larger mortgage market. Additionally, it indicates that you are adequately guarding against increases in interest rates.
For instance, if you sign a five-year term and interest rates rise during that time, you might have to pay a higher rate when you switch to a new deal.
But the inverse is also accurate. If interest rates decline before the term of your arrangement expires, your mortgage will cost more than fresh ones.
2. Time is saved.
People with shorter-term contracts will want to look around for a new arrangement every few years, which can take time.
Every time you make a transition, you'd definitely take some time to investigate the mortgage market and consult with a broker about your options.
As you must provide a ton of paperwork, including bank statements and evidence of income, applying for a new mortgage might take some time.
Speak with your current lender to learn about their offers as an option. A product transfer is when you change to a new agreement with your current lender; it often takes less time and costs less money.
3. It can help you save (some) cash.
You might be able to reduce your lender's fees by securing a long-term mortgage contract.
This is due to the fact that most arrangements include product fees, which are normally approximately £1,000. Ten switches over a 35-year period would result in an additional £10,000 in fees on top of your mortgage.
Over the course of your loan, paying a mortgage broker every time you switch to a new offer can also add up to hundreds of pounds in expenses (though keep in mind that you can seek mortgage advice for free).
By choosing a long-term fixed-rate mortgage, you can stop worrying about these additional expenses.
Remember that transferring a product to your current lender may be another way for you to avoid paying costs.
What drawbacks are there to a long-term fixed-rate mortgage?
1. You can wind up paying more than necessary for years.
You would be forced to pay more than the market average until your offer expires if you locked yourself into a long-term mortgage agreement now, when rates are high.
If you just fix your mortgage for two years and rates decrease during that period, you can switch to a new agreement with a lower interest rate when your current one expires.
Anyone who locks in a long-term arrangement today may regret their decision if the Bank of England's prediction that interest rates will decline in the future proves to be accurate.
It is, however, hard to predict with certainty what the future will bring for mortgage rates.
2. Second, limitations
To reduce the chance of people repaying debts in retirement, several banks place age restrictions on their long-term mortgages.
It's important to note that the average maximum age for borrowers at many institutions is about 70.
For instance, Santander will only grant borrowers under the age of 35 a 40-year term. This reduces the chance that they will pay off their mortgage when they are in their mid-seventies.
3. Exit costs
Keep in mind that if you wish to move before the term has ended, several long-term fixed-rate mortgages have steep departure fees.
Even if lenders like Habito don't charge exit fees, you should be aware of any expenses you might incur if you decide to stop your arrangement.