Variable Rate Mortgages
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Variable rate mortgages come with interest rates that rise and fall along with fluctuations in the base rate.
Think carefully about securing debt against your home. Your home may be repossessed if you do not keep up repayments on your mortgage
What is a variable rate mortgage?
If you have a variable rate mortgage, your mortgage interest rate can go up and down. This is usually in line with the Bank of England’s base rate, though your lender can set its own equivalent base rate.
This means that your monthly payments are not fixed, and you could end up paying more or less each month, depending on the base rate your mortgage deal is linked to.
There are three main types of variable rate mortgage: standard variable rate (SVR), discounted rate and tracker rate.
How do standard variable rate mortgages work?
The standard variable rate, or SVR, is the basic rate set by your lender, which varies across providers. The SVR is the rate you revert to once a fixed or tracker deal ends, unless you switch to a different deal. An SVR usually costs more than other variable rate and fixed-rate mortgages.
The SVR usually rises and falls with the Bank of England’s base rate, but lenders can change their rate whenever they like. This means lenders don’t necessarily have to lower the SVR if the base rate decreases, and they can change their rate at any time.
You can stay on this rate until you take out another mortgage deal, or sometimes as long as your full mortgage term. But if you do this, you will probably be paying more than you need to.
What are the different types of variable rate mortgages?
As well as the lender’s SVR, the two other main types of variable rate mortgage you’ll come across are:
This is a discount on the lender’s SVR for an agreed length of time, usually two or three years, though it can be longer. So, say you have a 1.5% discount on a 4% SVR, you will pay 2.5% on your mortgage loan.
As it is linked to the SVR, what you pay can change when interest rates increase or decrease, or when your lender makes changes to its rate. But you will only pay the agreed fixed percentage below the standard rate on a discounted rate mortgage.
With this type of mortgage deal, you pay interest in line with changes to the Bank of England base rate that it tracks. What you will be charged tends to be just above this rate.
For example, if your tracker rate is 1% above a base rate of 0.25%, you will pay a 1.25% rate of interest. Tracker rate deals can last from a year to five years, or in some cases, as long as the lifetime of the mortgage. For longer deals, you may pay a higher initial rate of interest.
Should I choose a variable rate or fixed-rate mortgage?
There is no one-size-fits-all answer to this. But how you feel about risk and whether you could afford your payments to go up if the rate of interest increases should be front of mind.
With a fixed-rate mortgage, for a specific period of time you have the predictability of payments and you are sheltered from an increase in monthly payments if interest rates rise. This could be useful if you are on a budget or at the start of your mortgage journey when a larger proportion of your payments is interest.
However, with a fixed deal you won’t benefit from reduced monthly payments if interest rates fall. Fixed deals also usually have an early repayment charge (ERC) if you leave your mortgage deal or pay it off before it is due to end. It’s worth noting that tracker and discounted rates may also have an ERC attached to them, so check the terms of your agreement closely and be clear on when any tie-in period ends.
A variable rate mortgage may be more unpredictable, but you will pay less interest if rates fall. If you are on your lender’s SVR, you can usually move deals or pay off your mortgage whenever you like without paying an ECR. This might be useful if you are looking to move soon, or would like to overpay your mortgage without limits and penalties.
Using a mortgage calculator can help you weigh up your options and work out what you might pay each month, depending on interest rate changes. If you’re not sure, a mortgage broker can help you work out the most cost-effective option.
What are the benefits of a variable rate mortgage?
Variable rate mortgages might appeal because:
- If interest rates decrease, your monthly mortgage payments will usually go down – this wouldn’t be the case on a fixed-rate deal.
- If you are on the lender’s SVR, there is typically no ERC for leaving your deal early or paying off your mortgage ahead of time.
- Some tracker rates allow mid-deal switches and unlimited overpayments with no ERC, or offer shorter lock-in periods than fixed deals. Always check the terms to be sure.
- You may have no, or very low, set-up fees if you move to your lender’s SVR.
- You may be offered lower initial interest rates than alternative fixed-rate deals.
- With a tracker rate, usually only a change in external interest rates will affect your payment, rather than a decision by your lender.
- Some tracker rates have a cap on the maximum amount of interest you will pay. This can help protect you from big interest rate rises, but make sure you don’t pay for that security with a higher initial rate.
What are the risks and disadvantages of a variable rate mortgage?
You may be reluctant to go for a variable rate mortgage because:
- If interest rates rise, your monthly payments will usually rise too so you could end up paying more interest than you did initially. And it will be more interest only that you’ll be paying – you won’t be paying off more of the original loan.
- If interest rates are predicted to rise, it might feel risky to take on a variable rate deal. The Bank of England base rate is reviewed eight times a year. Interest rates seldom change that often and can remain the same for years, but you’ll need to be comfortable with that risk.
- With a lender’s SVR, it’s up to the lender if they change the base rate, which means no guarantee of lower payments if the Bank of England’s base rate drops.
- If your lender has a ‘collar’ on your initial rate (which is a limit to how low your variable rate can fall), it will mean that if interest rates go below this you won’t benefit.
Variable Rate Mortgages FAQs
What is a standard variable rate mortgage?
A standard variable rate mortgage, or SVR, follows your lender’s default interest rate, and has no discounts or limited-term deals attached.
When a discount, tracker or fixed mortgage term ends, you will usually be automatically transferred to the lender’s SVR. This rate tends to be higher than introductory rates and could mean paying more than you need to.
If you want to avoid going on to your lender’s SVR, or are already on it and want to change rates, consider remortgaging to another deal.
Will interest rates rise in 2022?
In its forecast for 2022 to 2023, banking and financial services trade body UK Finance predicted that interest rate rises are likely to be “relatively modest”, but nobody knows for certain.
On 16 December 2021, the Bank of England increased interest rates from 0.1% to 0.25% in response to rising inflation. This will have a knock-on effect for some borrowers on variable rate mortgages, whose monthly repayments will go up. But it’s worth noting that homeowners on fixed-rate deals may also feel the impact once their initial rate ends.
Even if you could be sure how interest rates will change, it’s important not to base your decision just on how the economy might fare. How much you can afford to pay and the level of risk you are comfortable with are important considerations when you’re deciding on your preferred type of mortgage. And also bear in mind that lenders’ mortgage rates are not based solely on interest rates.
Can you switch from variable to fixed?
Yes, if you remortgage you can ask to switch deals from a fixed rate to a variable rate. You can do this as a product transfer with your current lender or remortgage with a different lender.
Before you go ahead, consider any fees for switching. Most fixed-rate mortgages will include an early repayment charge if you leave before the lock-in period ends.There may also be set-up fees for your new fixed mortgage deal, including product fees, arrangement fees, legal costs, and valuation fees.
Switching can get you a competitive rate, which could save you money in interest, but make sure those savings won’t be cancelled out by fees.
What is a mortgage collar?
If your variable rate deal has a mortgage collar, there is a limit to how low your variable rate can go. This may be the initial rate you are offered. So if the Bank of England base rate falls below the minimum interest rate set by your lender, you will pay a higher rate of interest than that.
At the other end of the sartorial scale, a mortgage cap is the maximum percentage you would pay, even if interest rates exceed that. Always check if these rate limits apply to variable rate deals you are considering.
What are the risks of standard variable rate mortgages?
Having a standard variable rate mortgage might be considered a risky strategy, as you won’t have the security of knowing that the interest rate won’t change. Lenders can increase their SVR at any time and if you are on a tight budget, you might be in a vulnerable position when it comes to repayments.
Switching to a fixed-rate deal can offer you more security when it comes to predictable monthly payments.
What is a tracker mortgage?
A tracker mortgage is a type of variable rate mortgage that follows the base rate of interest set by the Bank of England. This means that your rate of interest on repayments will change in line with a rise or fall in the base rate. The interest you are charged will usually be a margin above that rate, such as the base rate plus 1.5%.
What are the risks of tracker mortgages?
A tracker mortgage, like any kind of variable mortgage, won’t give you total security over your interest rate. If the Bank of England base rate changes, the interest you pay will change too.
If you choose a longer-term tracker, or even a lifetime one, it may be hard to predict what will happen to interest rates in years to come.
If you need to know exactly how much your monthly mortgage repayments will be, you may be better off considering a fixed-rate mortgage deal.
It’s worth knowing that some tracker rate mortgages offer caps, which provide some protection from a sharp rise in interest rates. This is because the lender sets a maximum rate you can pay.
What are discount mortgages?
mortgage – also known as a discounted rate or discounted variable rate mortgage – you will pay interest at a rate that is lower than the SVR. These discounts usually last for a period of one to five years.
As a discounted rate is linked to the lender’s SVR, what you pay will change when your lender makes changes to its standard rate, or when interest rates increase.
Should I switch from my fixed-rate mortgage deal?
If you currently have a fixed-rate mortgage deal and variable interest rates available to you are extremely low, a variable rate deal might appeal. This might be a deal your current lender is offering, or by remortgaging with a new lender.
Just be aware that even if rates are low right now, if the base rate increases, your payments will go up. You and your lender will need to be confident that this would be affordable for you.
You will want to get your timing right, too. Your fixed deal may have an early repayment charge for leaving your fixed rate early. So find out when the lock-in period ends and also consider any set-up fees for the deal you want to switch to.
Holly champions clear, jargon-free writing. She’s been creating finance content for leading organisations for over 10 years. Read more
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