The days of the 0 per cent mortgage are coming to an end. Borrowers who took out sub-base-rate tracker deals in the final throes of the bull market have been enjoying paying little or no interest.
But as two-year fixed periods come to an end, many are facing a massive rate shock as the interest repayable on their loans rockets by as much as 6 per cent. Borrowers now need to decide whether to fix quickly before rates rise or take a gamble on their lenders' SVR. Either way, with eroded equity and tight lending, borrowers are looking at rising costs and stretched budgets.
In the late summer of 2007, new tracker deals came on to the market with interest rates ranging from 0.26 per cent below Bank of England base rate (from Saffron Building Society) to as much as 1.01 per cent below (Cheltenham & Gloucester). While these were competitive deals, the sharp drop in the Bank of England base rate from 5 per cent to 0.5 per cent in six months meant those who had had the fortune to take one out went from paying over 4 per cent to paying very little or no interest. "These deals looked good at the time," says Richard Morea, a technical manager at mortgage broker London & Country, "but with the fall in base rate they've been tremendous."
However, the two-year fixed period for many of these deals is now coming to an end; as deals revert to the lender's standard variable rate (SVR) or underlying rate, repayments are set to rise. Halifax customers who took out their offering at 0.51 per cent below base rate for two years saw their deal end on 30 September; for those with a £150,000 loan, monthly repayments will rise from £544 to £792 on the SVR of 3.5 per cent, a hefty increase. Those who have chosen to overpay won't feel hikes as acutely. Eleanor Ross, a spokeswoman for C&G, says, "We've seen many customers maintain payments at the level they were before the base rate fell so dramatically, so the payment shock may not be as much."
For those facing the imminent end of their sub-base-rate tracker honeymoon, there are two choices: to stick with the SVR or not to stick. For many, reverting to the lender's SVR might not be the calamity it was pre-credit crunch. The base rate remains low and many lenders are offering attractive SVRs from 2.50 per cent. Other deals revert not to the SVR but to a rate comprising base rate and a fraction of a per cent. Again, some of these deals remain extremely competitive: Alliance & Leicester will automatically put customers who took out a tracker in July 2007 at base rate minus 0.31 per cent on a rate of base rate plus 0.99 per cent, which currently works out at 1.49 per cent. A deal like this is worth sticking with, at least for now.
Another advantage of the SVR is that it will not come with arrangement costs attached. For those whose equity has been squeezed by falling house prices, staying on the SVR may also give access to rates unattainable if you chose to remortgage. Lenders are still looking for big deposits, and staying on the SVR for at least a short while will give you a chance to chip away further at your loan. Alternatively, sitting on your SVR may give your house price time to recover slightly. You can then look at remortgaging once you are in a better position.
But even if the SVR is competitive and fee-free, you must be prepared for increasing payments at some point. As Melanie Bien, a director of Savills Private Finance, says: "If you are going to stick with the SVR you should have an income that can cope with price increases as rates are almost certainly going to rise." Once they do, fixed-rate deals will already have pre-empted the move and will be more expensive than presently. Borrowers may choose to stay on their relatively low SVR for now, but eventually they will want to switch. Unless they time it right, they could end up paying significantly more when it comes to it.
Not everyone has the choice of sticking with their current deal. The variation of SVRs across different lenders is wide. While some banks and building societies have made pledges not to raise SVRs above a certain threshold, others are pushing them up to compensate for losses made on retail savings accounts priced competitively to bring in savers. The outcome is that SVRs range from a low 2.50 per cent to 6.45 per cent – higher than average fixed-rate deals available on the market. "If you are on a low SVR it's attractive to keep it," says Ms Bien. "But if it is one that's higher you might as well try to find a fixed rate because you could get a better deal elsewhere."
For those with a good amount of equity, remortgaging is a viable option. Lending has softened over the past weeks, and although the best rates remain exclusive to those with about 60 per cent loan-to-value, there are now better deals for borrowers with 25-30 per cent equity. However, if your equity has been eroded by plunging house prices, or you are in negative equity, remortgaging is going to cost you. "Beyond 75 per cent LTV there is not as much competition or choice, as lenders are less keen to be going there," says Mr Morea. Rates on higher LTV deals jump around 2-2.5 per cent immediately which would leave people paying more than five times what they were for their trackers. Remortgaging also comes with other costs. The early redemption period on the tracker deal may have ended, but lenders can still charge exit fees as well as the usual mortgage fees.
"People who took the gamble on these sub-base-rate trackers have done superbly well," says Mr Morea, "but its unlikely that these circumstances are going to be repeated and the decision is going to be more difficult this time round. There are still low rates to be had, but paying so little for the past two years makes any new deal a harder pill to swallow."
Worse off by £300 a month
Anita Anderson, 39, from east London is on an Abbey tracker mortgage at Bank of England base rate minus 0.36 per cent fixed for two years. The mortgage will revert to SVR in January, currently 4.24 per cent.
"Each time the rate has dropped, I have paid off more capital. But if I stayed on the SVR, once rates start to rise the fun will be over. As a result, I've significantly reduced the amount outstanding and shortened the term of my mortgage from 30 to 18 years.
"However, reverting to SVR will cost me about £300 per month extra. Plus, if I don't find a better deal, I will be back to paying off the mortgage over 30 years again.
"Rates can only go up, so I'm not going to gamble again. I'd like to know exactly how much will come out each month for the foreseeable future so while they remain quite low, I'd like to fix for as many as five years. Luckily I've built up quite a lot of equity so I hope this will give me the flexibility to find a good rate."