Types of Interest Rates

Repayment / Interest Only Mortgages

Mortgage lenders agree a loan over a selected term to enable an individual to purchase a property. During the term of a mortgage, you as the borrower agree to pay a rate of interest on the full amount borrowed and agree to repay the capital borrowed by the end of the specific period of time.

As security against the loan, the mortgage lender usually takes a charge on the property being bought. This means the property cannot be sold unless the outstanding loan amount is repaid. It also means the property may be repossessed if you do not keep up repayments on your mortgage. The loan amount is usually a percentage of the value of the property being purchased, which is assessed by the lender’s surveyor.

Once you have decided on whether you want to opt for a Capital Repayment Mortgage or an Interest Only Mortgage, you need to turn your mind to interest rate options. We have outlined below the main interest rate options available to you

Fixed Rate Mortgage

Charges a set rate of interest for a pre-determined period and then usually reverts to the lender’s *SVR. The fixed rate will often be very competitive, however when you revert to the lender’s SVR rate, you will find that this may be much higher.

*Standard Variable Rate (SVR)

Pros

This offers you the security of knowing how much you will be paying during the initial fixed rate period which can make budgeting much easier.

Cons

If the Bank Base Rate reduces, your fixed rate may prove to be more expensive than a discounted or tracker rate. For example, you may tie in to a fixed rate, but the loan rates may continue to reduce, leaving you on a higher loan rate and unable to move to a lower rate due to Early Repayment Charges.

Tracker Rate

This provides the certainty of knowing the rate you pay will move automatically in line with Bank Base Rates. You benefit immediately from any reduction in the Bank Base Rate, even if a lender delays reducing its SVR to reflect the reduction.

Pros

This means you benefit from any reduction in the Bank Base Rate, which is particularly beneficial in times of low Base Rates

Cons

If the Bank Base Rate increases, your interest rate will also increase; while those on capped or fixed rates will maintain their lower rate for longer.

Standard Variable Rate (SVR)

The simplest form of loan is one which sets its interest rate according to the lender’s SVR. Interest payments are likely to rise or fall every time there is a change in the Bank of England’s Base Rate. However, lenders don’t always pass on the change in Base Rate – this can be to your disadvantage if the rate falls. Most borrowers are transferred to their lender’s SVR once their initial/promotional rate period comes to an end.

Pros

There are usually no Early Repayment Charges on these loans.

Cons

The unpredictability of interest rates makes it difficult to plan your finances, and the costs of your mortgage may rise rapidly if interest rates increase.

Discounted Rate

Offers a reduction (“discount”) of a given amount on the lender’s SVR. If the SVR changes, the rate you pay will fluctuate in line with the change but at the same level of discount (e.g. 0.5% below SVR). Usually, the greater the discount the shorter the period of discount will be. After the discount ends, the loan reverts, in most cases to the lender’s SVR.

Pros

You can make significant savings on the SVR.

Cons

These often incorporate Early Repayment Charges, which may make it expensive for you to re-mortgage to another rate or to another lender during the discounted rate period.

Capped Rate

Will not rise above a certain level for the capped period – offering similar security to the fixed rate. You can have confidence that your interest rate will not exceed the capped rate, whatever happens to the lender’s SVR. The initial rate is usually competitive; however the deal will often also incorporate early repayment charges.

Pros

Offer you the security of knowing your monthly payments will not rise beyond a certain level during the initial rate period, and therefore it will be easier for you to budget than it would were you on a tracker or variable rate.

Cons

As a payback for the security of the capped rate, rates are often higher than a fixed rate and the initial cap term seldom lasts longer than 2 or 3 years.

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