The property boom over the last ten years is forcing the Government to look for ways to create stability in the UK housing market. Lenders are being encouraged to offer 25 year fixed rate mortgage deals, but is it a good idea?
Successive rises in interest rates over the last year, is starting to take effect as monthly mortgage payments are rising significantly. People on two or three year fixed rate mortgages, whose term will end soon, will soon be hit with mortgage payment increases of £150 or more.
Increases in rates of this magnitude can swing a booming property market into stagnation or, worse, falling house prices, though there is only a small risk of a property price crash in the near future. This boom to bust cycle is damaging to the long term stability of the housing market.
25 year fixed rate mortgages
Fixing your mortgage rate for 25 years, often called lifetime mortgages, means that you are then immune to rises and falls in interest rates. You pay the same mortgage payment each month regardless of what the Bank of England dictates the interest rates will be.
This can be beneficial as you can budget for your mortgage safe in the knowledge that your payments will not increase over the term of your mortgage.
Of course your monthly payments won’t decrease when rates fall either, but over a 25 year period, there is a chance that the interest rate increases will be equalised by the rate decreases.
Very few people remain in their house for 25 years so its important that such a long term mortgage is portable to subsequent properties. In effect, you take your mortgage with you as you move from property to property.
As more than 80pc of mortgages have fixed rates, it would seem that people would be ready to take up such a long term fixed rate mortgage. After all you would not need to pay all the arrangement fees associated with renewing your fixed rate mortgage every two or three years.
Early Repayment fees
It seems an ideal solution for property owners. Take out one mortgage. Know what the monthly payments will be for that whole mortgage term and budget accordingly.
However there are catches that borrowers should be aware of.
Although in principal it seems sensible to take out a long term mortgage, people’s circumstances change. They move abroad, or as the divorce rate shows, they have changes to their relationships which affect their property status.
Terminating 25 year fixed rate mortgages early can be very costly as hefty early repayment fees apply, often for 5 years or more into the term of the mortgage.
For example, the Nationwide charges 3pc of the entire overpayment amount if you overpay or redeem your lifetime mortgage within the first five years. You can make overpayments of £500 per month without incurring any charges, however, and this can reduce the total costs of your mortgage significantly.
This means that a £200,000 lifetime mortgage could incur a £6,000 early repayment fee within the first five years of the mortgage.
Fix at time of low interest rates
If you arrange a 25 year fixed rate mortgage now, you will be repaying that mortgage at around 6pc (5.94pc at the Nationwide).
If rates peak at around 6.25pc and then fall, you will be out of pocket by thousands of pounds at this long term mortgage rate.
If you had taken out a 25 year fixed rate at 4.99pc two years ago, you would be making considerable savings now and “laughing all the way to the bank” as the rates will probably not return to these low levels for a considerable time.
If you are attracted to a lifetime fixed rate mortgage then wait until interest rates fall, though no one can predict when this be, and rates may increase in the meantime.
Lifetime mortgages – pros and cons
So as we have seen there are pros and cons to long term fixed rate mortgages
There are common in the USA and are well accepted by borrowers. They are also flexible and allow changes in personal circumstances.
Driven by the Government’s desire for greater stability in the housing market, which essentially requires a separation of mortgage rates from short term movements in interest rates, lifetime mortgage products will surely mature over the next year or so.
Long term fixed rate mortgages will become more flexible and adaptable to personal lifestyles. If the rates fall so that you can fix your rate at a low rather than a high, then they may become an attractive proposition in the future.