Recently, the Bank of England has increased interest rates by 0.5%, bringing it to the highest level since 2008. Despite this, fixed rate mortgages have continued to decrease, providing some hope to those looking to remortgage.

In this blog, we'll discuss the reasons for the rise in interest rates, its impact on variable and fixed rate mortgages, and what you can do about it.

Reasons for the Rise in Interest Rates

The primary reason for the increase in interest rates is to control inflation. Inflation is the rate at which the cost of goods and services increases, and it has remained stubbornly high. Despite a 3.9% increase in the Bank Rate, inflation remained at 10.5% in December 2021, only slightly down from November's figure of 10.7%. The Bank of England's target for inflation is 2%.

Part of the problem is that inflation is being driven by external factors. For instance, the conflict in Ukraine has pushed energy prices higher, and supply chain disruptions have led to shortages and higher prices. In response, the Bank of England has been raising interest rates since December 2021 to combat inflation.

Impact on Variable Rate Mortgages

Variable rate mortgages are those where the interest rate is linked to the Bank of England’s Base Rate. As a result, homeowners with variable rate mortgages have seen their monthly mortgage costs increase by £440 since the Monetary Policy Committee (MPC) first started raising interest rates from 0.1% in December 2021. With the latest increase, nearly 2 million homeowners with variable rate mortgages will see their monthly repayments rise by a further £60 a month, based on a £200,000 loan. An estimated 850,000 homeowners have a tracker mortgage, and 1.1 million are on their lender's standard variable rate.

Those with variable rate mortgages need to budget for the additional monthly payment and consider whether they can afford further increases. However, there is good news for these homeowners. The tone of the minutes that accompany the MPC's interest rate announcement suggests that the Bank Rate could be close to peaking. There was a shift in language, with the MPC stating that there "would" be further interest rate increases "if" there was evidence of persistent inflationary pressures. This is in contrast to its previous statements that it would continue to "respond forcefully" and "take the actions necessary" to get inflation back down to its target.

Impact on Fixed Rate Mortgages

Fixed rate mortgages are those where the interest rate is fixed for a certain period, regardless of whether the Bank Rate changes. Despite the increase in the cost of borrowing, the average rate charged on new fixed rate mortgages has continued to come down, falling by 0.35% for two-year deals and by 0.43% for five-year ones. This provides hope for those who need to remortgage in the near future.

There are several reasons for this decrease in fixed rate mortgages. For instance, when Chancellor Kwasi Kwarteng's mini-budget triggered a sharp rise in government borrowing costs at the end of September 2021, interest charged on fixed rate mortgages shot up. However, they have been easing downwards since Jeremy Hunt took over as Chancellor.

Additionally, lenders are now competing fiercely for business, and this has led to a fall in mortgage rates. This trend is expected to continue in the coming months, with mortgage rates for new business generally below 5%, and economists predicting they will remain in the 4% to 5% range for most of 2023.

What Can You Do About Your Mortgage?

If you have a fixed rate mortgage, it's crucial to be aware of when your current deal is due to expire. More than 1.4 million homeowners are on fixed rate mortgages that are due to expire this year. If your deal is due to end soon, you should start looking around for a new rate now, as lenders will allow you to book onto a new rate up to six months before your existing one ends. However, it's important to be prepared to move quickly, as the average mortgage is currently only available for 15 days before lenders withdraw it.

It's essential to remember that the interest rates charged on fixed rate mortgages are just averages. The best buy deals for those with significant equity stakes in their property are available for below 4%. If your current mortgage deal is not due to end soon, you don't have to do anything as the rate you are paying now will stay the same until the end of your product term, even if interest rates increase further.

If you have a standard variable rate (SVR) mortgage, you should look into remortgaging onto a more competitive rate. The interest charged on SVRs has been steadily increasing since December 2021, as rates on these automatically move up and down in line with changes to the Bank of England’s Base Rate. The average interest rate charged on an SVR was already 6.84% before the latest increase, and it is likely to rise above 7%. Remortgaging from an SVR of 6.84% to an average two-year fixed rate deal of 5.44% would save you nearly £175 per month, based on a £200,000 mortgage.

If you have a tracker mortgage, your rate will automatically increase following the interest rate rise. Remortgaging to a fixed rate deal would protect you from any further interest rate increases, but economists are now predicting that the Bank of England’s Base Rate is close to peaking. If you stay on your current deal, the cost of fixed rate mortgages may have fallen further by the time you need to remortgage. It's important to think about how much slack you have in your budget to afford your mortgage repayments if the Base Rate rises by more than is currently expected.

If you are struggling with your mortgage payments, there are two main ways to make them more affordable. The first is to increase your mortgage term. For example, monthly repayments on a £200,000 mortgage on a fixed rate of 6% would be £1,450 if you are repaying it over 20 years. However, monthly repayments would fall to £1,210 if you increase the term to 30 years. They would fall even further to £1,150 if you repay the mortgage over 35 years. Although this will reduce your monthly repayments in the short term, it will result in you paying a lot more interest over the entire life of your mortgage.

The second option is to talk to your lender about being put on an interest-only mortgage for a period of time. Only paying interest significantly reduces your monthly payments, although it does mean that the amount you owe is not being reduced, so you will need to resume full repayments at some point. If you are struggling, you can ask your lender for a short-term payment holiday. This enables you to take a break from making repayments, with the interest portion of your monthly payment added to your outstanding mortgage debt.

Conclusion

The Bank of England's recent increase in interest rates will impact both variable and fixed rate mortgages. However, fixed rate mortgages continue to decrease, offering hope for those looking to remortgage. If you have a fixed rate mortgage, it's crucial to be aware of when your current deal is due to expire, while those with an SVR mortgage should consider changing to a fixed rate mortgage.  

Please note, the blog above is not to be construed advice. For advice on your mortgage, speak with your lender or your mortgage broker.