Variable or Fixed Rate?

by Mark Johnston

With the economy seeming to be slowly climbing out of the recession, millions of home owners are facing a dilemma! Is it time for them to fix their mortgages long term or opt to stay with a variable deal while the rates are still low.

Figures show that the average interest rate on variable loans are now just 2.87%, this is much lower than the average at the start of 2007, just before the financial crisis hit, which was approximately 6.23%.

The proportion of people on a variable rate is at its highest level since records began. According to the financial services authority (FSA) figures almost 7 out of 10 (69%) of outstanding mortgages are variable rate deals, this also is at its highest since 2007.

With this high proportion of variable deals many of the home owners who are now enjoying unusually low monthly payments could be affected immediately when interest rates do rise. Thus making millions on such deals ‘zombie households’ having been kept afloat only by the record low rates of interest, which of course can not and will not continue to be sustained.

Some borrowers have actively chosen this type of loan while rates are low to allow them to overpay their mortgage and also to pay off other outstanding debts. However others have found themselves unable to move from their lenders standard variable rate (SVR) deals when their previous fixed rate deal ended. This has been due to them not meeting many lenders new criteria when they have come to re-mortgage.

When the Bank of England finally starts to raise the historically low 0.5% base rate those with variable rate mortgages will definitely see their monthly payments climb dramatically.

According to new research from Which? Money a mere 1% point increase to the Bank of England base rate would potentially add more than £50 to monthly repayments of someone with a £100,000 20 year mortgage on a standard variable (SVR) deal.

Paul Diggle, a property economist at Capital Economics warned “given the high level of mortgage debt outstanding in relation to incomes that could have serious ramifications for payment problems when interest rates do eventually rise”. warned in January this year that tracker loans should be seen as ‘handle with care’ mortgages as at some point the base rate will eventually rise and borrowers considering this type of deal need to ensure they can afford higher repayments in the very near future.

Research from Legal and General (L&G) has indicated that at the present time more home owners are opting for fixed rate deals. Their figures show that 72% of residential home owners are choosing fixed rate deals, compared to the 65% in the last 3 months of 2008.

Stephen Smith, director of housing for Legal and General states that “fixed rate pricing has only really started to come down in the past few months”.

At the present time however fixed rates are falling, with the average rate of a 2 year deal down to around 4.78% from 5.90% at the end of last year.

Therefore fixed rates are very much back in favour, partly because lenders have increased the margins on their new tracker mortgages and partly because switching to a fixed rate gives borrowers peace of mind, allowing them to know exactly what their payments are each monthly and they can budget accordingly.

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