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When Should Homebuyers Get Into A Fix?

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Although the Bank of England decision to leave interest rates unchanged at 0.5% buys time for over-stretched borrowers, the nagging questions remain: when will rates rise, and how fast will they climb?

An early rise seems unlikely. If rates rose quickly, banks would face rising bad debts on mortgage business and corporate loans. This could see the work they’ve done to rebuild their finances since the crash of September 2008 soon unravel.

One leading fund manager, Neil Woodford, managing £20 billion of savers’ money as Invesco Perpetual’s head of investment, predicts rates will stay low for “a very long period of time.”

Ray Boulger, at mortgage brokers Charcol, says: “The consensus view among economists is that the Bank rate is unlikely to go up until mid-2011 at the earliest, and I would not be surprised if it was still stuck at 0.5% in December 2011, because the economy is in such a mess.”

“The big problem is that if the Bank rate stays low and people get used to it, the shock of its eventual rise will be all the greater. The next two years will be an extremely challenging time for the Bank of England.”

Bruce Riach, at Riach Independent Financial Advisors, sees dangers ahead too.

“Things will not stay this way for ever,” he says.

“If the predictions of economists are borne out, people on variable rate mortgages could see a big rise in repayments in the near future.”

“Obviously borrowers on tracker mortgages would see their rate rise in line with any base rate increase. Borrowers should move to a new fixed rate deal if they expect variable mortgage rates to rise in due course.”

David Hollingworth, at London & Country Mortgages, thinks homeowners should consider two approaches.

“They should consider how well they will cope with future rate hikes and higher mortgage payments,” he says.

“Those who dislike uncertainty will be eyeing cheap fixed rates to gain medium to longer term security.”

“Secondly, borrowers should also consider overpaying while rates are low, to cut debt more quickly and improve their position when rates begin to lift.”

Some might be tempted to switch lenders to secure one of the attractive deals unveiled in recent weeks.

Online bank first direct has a two-year repayment tracker at 2.19% (1.69% above the Bank of England rate) with a £99 fee.

HSBC, parent company of first direct, also offers a 2.19% tracker until October 31, but these loans come with an LTV (loan to value) limit of 65% and 60% respectively.

Norwich & Peterborough BS (N&P) has a ‘best buy’ tag on its five-year fix at 4.49%, with an 80% LTV limit. But potential costs to consider include the £995 fee, early repayment charges in each of those five years, and a 10% limit on the amount of capital repaid without penalty each year. For an 85% LTV limit, the N&P fix costs 4.99%.

For borrowers who accept a 75% LTV, Accord (part of Yorkshire BS) has a 3.99% fix until October 31, 2015, with a stonking £1,995 fee. Customers need to lock in for the full five years to spread the impact of that fee.

Borrowers needing only a 60% LTV should note HSBC’s repayment-only mortgage which is fixed at 3.94%, with a £99 fee.

HSBC, which does not deal through mortgage brokers, is chasing first-time buyers with more deals: a market leading tracker at 3.69% above the Bank of England rate (currently 4.19%), and a two-year fix at 5.09%.

Both deals require a deposit of only 10% of the property’s total value and have a fee of only £99.

Boulger thinks potential remortgagers might stick with their existing loan for a few months - keeping options open to move fast if circumstances change.

“While there may be better value to be had by staying on good standard variable rate (SVR) or a competitive tracker for a little longer, the trick will be to switch to a fix some way ahead of that first rise,” he says.

“When the first rise does happen, it might be too late. The market could swiftly factor in one or two more rises down the line, and then fixes might become considerably more expensive than they are now.”

“There is a further conundrum: at the moment, most of the competition in fixes is over a two-year period and below 3%, with less competition over five-year fixes.”

“In particular, Godiva has launched a fixed rate to December 31, 2012, at 2.49% up to 60% LTV, with a fee of 1.5% plus £199, free valuation and free legal fees on remortgages.”

“However, once rates start to rise, longer fixes will become much more attractive,” says Boulger.

“Although there is increased confidence that rate rises, when they eventually come, will only come slowly, there has been an increased take up of fixed-rate mortgages over the last few months.”

Since the credit crunch, the level of the borrower’s equity has become the decisive influence on mortgage rates: best deals are at the 75% LTV limit or below, and each additional 5% on the LTV adds 0.5% to the
mortgage rate.

While SVR borrowers at Nationwide and Cheltenham & Gloucester know their mortgage rate cannot exceed the Bank of England rate by more than 2%, those with other lenders are more exposed. Skipton BS hiked its SVR from 3.50% to 4.95% in March.

But most SVR borrowers who owe less than £50,000 have little incentive to switch lenders, due to the costs involved. But if your SVR is above 5.5%, and your LTV limit is below 75%, you could probably get a cheaper loan elsewhere - your passage smoothed by free valuation and legal costs paid. The average SVR is around 3.5%.

Boulger says: “Although we have recommended tracker mortgages for most clients for 15 months, we will watch the situation closely. When we think a fix is right, we advise accordingly.”

Borrowers with significant savings, or earning sudden lumps of money from bonuses or self-employed earnings, might also consider an offset mortgage, where the interest earned on a linked savings account invested with the lender is used in the most tax-efficient way to pay the mortgage.

Attractive offset deals include a five-year fix from Accord at 4.29%, up to 75% LTV and with a £995 fee. Accord has a 10-year fix at 5.14% until to October 31, 2020, again with 75% LTV and a £995 fee.

Also available as an offset is the discounted SVR loan from Clydesdale, discounted by 2% until November 30, 2012, to make an effective pay rate of 2.59% (SVR 4.59%).

The LTV limit is 65%, the fee £999, on a minimum loan of £100,000, with free valuation and legals for remortgagers. There is no early repayment charge and borrowers can switch to a fix at any point without penalty.