How to get ahead of rate rises

This time last month, it seemed a foregone conclusion that interest rates would finally start to rise in May.  The soaring cost of living was putting increasing pressure on the Bank to put up rates from their rock bottom 0.5%, leaving millions of borrowers facing the prospect of steeper mortgage bills.

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But favourable inflation figures - the Consumer Prices Index fell to 4% in March, from 4.4% the previous month - and the weaker than expected economic data has now made that prospect less likely, which means homeowners could be offered at least one more month’s reprieve from higher housing costs.

Nevertheless, there’s no escaping the fact that rates will have to go up eventually, and the likelihood is that they may well move later this summer. So if you are a homeowner on a variable rate deal and are concerned about meeting higher monthly repayments, it’s time to get prepared.

Switching to a better deal

The good news is, in recent days and weeks, a number of mortgage lenders have cut rates, reduced fees and introduced perks all designed to assist borrowers when rates do eventually rise.

Last week for example, Woolwich cut the cost of its tracker and fixed rate deals. The biggest discount applies to the lender’s two-year fix which has fallen by 0.32% to a new and improved 3.57% in exchange for a 25% deposit.

Andy Gray, head of mortgages at the bank, said:  “Base rate could start to rise as early as next month with a steady climb up to 3% per cent by June 2013. These cuts are about jump-starting thousands of borrowers to take action before their mortgage payments are impacted.”

Rate reductions also apply to Woolwich’s ‘Great Escape’ package which is designed to ease the cost for homeowners wanting to jump onto a better deal.  The mortgages, which are available at up to an 80% loan to value, come with no set-up fees, free legal and valuation work, and £300 cashback to cover the cost of any exit fees charged by your current lender.

Clydesdale and Yorkshire Banks have also halved their arrangement fees from 3 May for anyone taking a new mortgage or switching to the lenders before 2 July 2011. That’s an extra £500 in borrowers’ pockets.

Finding out what your own lender can do

The crunch however, lies with the fact that it’s not always possible to jump ship and switch lenders. For example, you could be faced with hefty Early Redemption Penalties (ERCS) which would wipe out any saving made by switching. Alternatively your loan to value may be too high (usually 90% or above) for a new lender to consider your custom.

But even if this is the case, there are still measures you can take to prepare yourself for rate rises.  David Hollingworth at mortgage broker London & Country recommends calling your existing lender as it might be more flexible than you think.  “Halifax for example has a range of deals for existing borrowers to switch to – and its 95% mortgages are available even if the borrower is in negative equity [up to 125% of the property's value].”

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Get up to speed with existing offers

Borrowers with Nationwide, Royal Bank of Scotland, HSBC and Woolwich may also be able to switch to a fixed rate even if they are tied into their current deal with an ERC – something that is often referred to as ‘switch and fix’ or ‘drop lock’.

From this week, Santander joins them in launching a similar facility called ‘Track and Fix’. However, the offer only applies to two and three-year tracker deals, taken at 60%, 70% and 75% loan to values.

Factor in fees

Another factor to bear in mind when searching for a more favourable mortgage to see you through impending rate rises is that, in some cases, fees attached to seemingly low-rate deals can actually make them more expensive.

For example, some recent number crunching from moneysupermarket.com reveals that Santander’s two-year fix priced at 2.79% is actually more costly than its 2.99% equivalent deal on loans of up to around £300,000. This is because the ‘cheaper’ deal requires a £1,995 fee compared to a £1,250 fee that applies to the higher-rate deal.

Other measures…

If all else fails and you are faced with a mortgage payment that is unmanageable in the face of climbing rates, there may still be avenues available. For example, your lender may allow you to temporarily switch to interest-only payments. 

A 25-year £200,000 interest-only mortgage payable at 5% costs a hefty £336 less a month than its equivalent repayment deal. However, bear in mind this is not a ‘saving’ as the capital will always need to be repaid – and the sooner you do this, the less interest you pay.

You may also be able to extend the term of your mortgage which would alleviate some immediate financial pressure. A £200,000 repayment mortgage priced at 5% for example, would cost £1,169 a month taken over 25 years but only £1,073 taken over 30 years. Again though, this arrangement will incur more interest and should be viewed as a temporary solution.

Infinitely better than trying to ‘put off’ higher housing costs, is to make your home generate its own cash. Renting out a spare room to a lodger for example can put hundreds of pounds a month in your pocket and, under the government’ Rent-a-Room scheme, you can earn the first £4,250 a year tax-free.

Please note: Any rates or deals mentioned in this article were available at the time of writing.

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