Fixed rate mortgages: how they work and whether one suits you

What makes a fixed rate mortgage different?

A fixed rate mortgage is a type of mortgage whose interest rate remains the same for a fixed period of time, e.g. 2 years, 3 years, 5 years, 10 years.

Source: Halifax

Mortgage rates depend on several factors, including Bank Rate, which the Bank of England sets and which influences how much lenders charge.

With variable rate products, your payments can change: tracker rates follow Bank Rate, while a lender’s Standard Variable Rate (SVR) and discount rates can change at the lender’s discretion. This, of course, means additional risk, which not everyone is prepared to take, especially when it comes to paying off a house. The solution to this problem is, of course, a fixed rate mortgage.

Choosing such a product means, above all, peace of mind and financial stability - your monthly payments will not increase for a certain period of time, which increases the predictability of your future expenses. Depending on the mortgage agreement, you will pay the same for your home for 2, 3 or even ten years.

However, there are two sides to every coin - fixed-rate mortgage payments will not fall even if the Bank of England cuts the base rate. This means that while others will be paying less, you won’t feel any difference until you remortgage, which may involve fees.

Advantages of a fixed rate mortgage:

• Your monthly payments stay the same for the fixed period, which makes budgeting easier.

• Your payments will not rise during the fixed period, even if Bank Rate goes up.

Disadvantages:

• If Bank Rate falls, your payments will not fall with it until your deal ends.

• Depending on the market, a fixed rate may be higher or lower than the variable rates available at the time.

• Leaving the deal early may mean paying an Early Repayment Charge (ERC).

For how long can the interest rate be fixed?

As a rule, the fixed rate does not last for the entire duration of the mortgage, but only for the first few years. After the fixed period ends, interest is charged at a variable rate. A very important part of financial planning is therefore to determine for which period you want to lock in your interest rate.

As a legitimate mortgage broker in the UK, we need to signpost our clients to products that are reasonable and sensible to choose. Many of our customers consider two-year fixed-rate mortgages, although the most suitable fixed-rate period depends on their circumstances, preferences and the mortgage products available.

Future interest rate movements are uncertain. When considering a two-year or five-year fixed-rate mortgage, it is important to compare the available products, overall costs and your plans rather than relying on predictions about interest rates.

When comparing fix lengths, look at the total cost over the fixed period, including the interest rate and any fees. Fees make up a bigger share of the cost on smaller loans, so a slightly lower rate with a high fee is not always the cheaper option.

How long should you fix your mortgage for?

Two- and five-year fixes are among the most common fixed-rate deals, but lenders also offer other lengths, such as three- and ten-year fixes.

Two-year deals are a popular choice. They give the most flexibility because you can review your mortgage sooner. They are most suitable for borrowers who want to actively manage their mortgage and change their offer regularly, or those who are considering a move in the near future. They are also an option for those who expect interest rates to fall in the relatively near future.

Five-year contracts protect mortgage rates for a longer period of time. The prospect of locking in an interest rate for five years can be attractive, but you need to consider whether you really want to commit to a contract for such a long period.

If you repay your mortgage or move to another lender during the fixed-rate period, you may have to pay an Early Repayment Charge (ERC). If you move home, you may be able to take your mortgage with you (port it) and avoid the charge. Check your mortgage offer.

Whatever your prediction, it is always worth consulting an experienced credit adviser who knows what is currently happening in the market and will be able not only to discuss the pros and cons of each solution with you, but also to calculate it accurately.

Can you overpay a fixed rate mortgage in the UK?

Many people, for various reasons, want to overpay and pay off their mortgage as quickly as possible. Can you do this with a loan and a fixed rate?

Yes. Many fixed-rate mortgages let you overpay up to a set limit each year without an Early Repayment Charge, often 10%, though some lenders allow more and the limit may be based on your balance or your original loan. You can usually overpay in regular amounts or as a lump sum. Check your mortgage offer.

Be careful when overpaying: if you pay more than your lender’s overpayment allowance, you may have to pay an ERC. Ask your lender how much you can overpay without a charge.

What happens when a fixed rate mortgage runs out?

When the fixed rate period ends, your lender will usually move you onto its revert rate, often its Standard Variable Rate (SVR), unless you switch to a new deal. Each lender sets its own SVR. It is not fixed and can go up or down at the lender’s discretion under your mortgage terms, but your lender must give you notice in advance of any change to your payments.

Many lenders let you secure a new deal a few months before your current deal ends, often up to six months ahead, though some allow less time. Check with your lender. A new deal with your current lender is called a product transfer; moving to a different lender is called a remortgage. Either way, you can avoid moving onto the revert rate.

I hope the article answers basic questions about fixed rate mortgages. For more information, please see the article: Fixed rate mortgages on the MoneyHelper website.

As always, I encourage anyone who is ready to start the process of buying a property and is struggling to find the right mortgage to contact me.