Variable-Rate Mortgages: Right for Some But Not for Others
The interest rate charged on a variable-rate mortgage can go up or down during the term of your loan. This can work for or against you.
A variable-rate mortgage is one where the interest rate charged can change over the course of your loan.
This can be a positive: If the interest rate falls, so too will your monthly repayments, meaning it costs you less to pay your loan. However, if interest rates rise, so too will your repayments, meaning the mortgage becomes more expensive.
Different types of variable-rate mortgage
Variable-rate mortgages come in a few different forms, and it’s important to understand the differences between them.
Tracker rate: With a tracker rate, the rate you are charged tracks the bank base rate set each month by the Bank of England. If the bank base rate goes up, so will the rate on your mortgage.
These rates are generally set at a percentage point or two above the base rate. For example, if your rate is at a base rate of 0.1%, plus 1%, you will be charged an interest rate of 1.1%. But if the base rate were to increase to 0.5%, the rate on your mortgage would also rise, to 1.5%.
You may take out a tracker rate for a set period, say two years, or for the entire term of the mortgage. If you opt for a two-year tracker, after those two years are up you will be transferred onto the lender’s standard variable rate.
Standard variable rate (SVR): Once your initial fixed or variable rate comes to an end, you move onto your lender’s standard variable rate (SVR).
Each lender will set its own SVR, and they can be quite expensive. Importantly, the SVR can be changed by the lender at any time, no matter what happens to the bank base rate. As a result you can be taken by surprise by a mortgage rate increase.
If you do not remortgage, then you will remain on the SVR until the end of your mortgage term.
Discount variable rate: Some lenders offer a discount mortgages, where the rate on your mortgage tracks at a discount below their standard variable rate. For example, if their SVR is set at 5%, and the discount is 2%, then the interest payable on your mortgage would be 3%. If the SVR moves up to 6%, your interest rate would increase to 4%.
Discount variable rates tend to be offered over a set term of a couple of years. Once that ends, you start paying the SVR itself.
» MORE: Compare tracker mortgages
Pros and cons of a variable-rate mortgage
The big selling point of a variable mortgage is where it comes in cheaper than a fixed-rate mortgage. When interest rates aren’t at rock bottom, you may also see your repayments go down if interest rates fall.
With a fixed-rate mortgage, you know precisely what your mortgage repayment will be each month for the length of that fixed term. By contrast, a variable-rate mortgage with a lower interest rate will have smaller monthly repayments, for a time.
But the downside is that there is no certainty it will remain cheaper; your rate, and consequently your repayments, may increase over time. As a result, over the term of the mortgage a variable rate could end up costing you substantially more — there’s simply no way of knowing.
If you are happy to accept that risk in the hope that you end up saving money, a variable-rate mortgage may be for you. Otherwise, the certainty offered by a fixed-rate mortgage is likely to make more sense.
Another selling point for variable mortgages — trackers in particular — is that it may be cheaper to change to a different deal than with a fixed rate. With fixed-rate mortgages, you have to pay an early repayment charge (ERC) if you want to switch to a new deal during the term. This can run into the thousands of pounds.
However, some variable-rate mortgages don’t come with an ERC. As a result, if the base rate looks set to increase, or your circumstances change and you are no longer comfortable with the risk associated with a variable rate, you could switch to a fixed rate without having to pay an additional charge.
» MORE: Compare fixed-rate mortgages
How to find the best variable-rate mortgage
While most lenders in the UK offer fixed-rate mortgages, this is not the case with variable mortgages. Your choices are more limited.
You may want to make use of a mortgage broker. A broker is an independent adviser who can help work out what type of mortgage best meets your needs. They also have access to lenders and individual products you may not be able to get as a direct borrower, which could improve the range of options open to you.
It’s also important to remember that the very lowest rates are reserved for borrowers with the best credit scores. If you have black marks on your record — missed or late repayments on other loans — you may not be accepted for the market-leading variable-rate mortgages.
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John Fitzsimons has been writing about finance since 2007. He is the former editor of Mortgage Solutions and loveMONEY and his work has appeared in The Sunday Times, The Mirror, The Sun and Forbes. Read more