Get the best mortgage for you

One of the biggest decisions you face when you take out a new mortgage is choosing the type of loan you want.

Choosing between a fixed rate, where your repayments are guaranteed to remain the same for a set period, and a variable rate – perhaps a discount or a tracker – where repayments can go up or down, can be tough. Even the best broker can only lay out the pros and cons of each type of deal. “Deciding whether to go for a discounted or fixed deal is personal and will largely depend on individual circumstances, preferences and perceptions,” says Tim Henson, compliance director at broker All Types of Mortgages.

Decisions, decisions…

When taking out a new mortgage the first thing borrowers want to know is how much it costs each month, which means looking at the interest rate. The juicy headline rates listed in national newspapers or websites often look tempting, but the best rates may not always be the best deals when you look at them in detail.

Ray Boulger, senior technical manager at broker John Charcol, says: “If fixed rates are cheaper right now it’s likely to be because the market expects rates to fall further, and if discounts are cheaper it’s because the market thinks rates are going to rise.” Although the market isn’t always right, it’s important to bear this in mind.

At the moment, however, there isn’t much to choose between best-buy fixed and variable-rate mortgage interest rates. A two-year discount deal from Dunfermline Building Society with no extended tie-in has a rate of 4.19 per cent on loans up to 80 per cent LTV, while the Portman Building Society has a two-year fixed-rate deal without extended tie-ins at 4.38 per cent on loans up to 95 per cent. With little to choose between these, or the rest of the best-buy deals listed by Moneyfacts, it is easier to focus on the other factors that should influence your choice.

So what are they? “Normally a combination of the borrower’s personal circumstances and their perception of the economic outlook,” says Will Gratton, product manager for mortgages at First Direct. “If they have young children or are relying on one income for a while, people will likely go for the stability of a fixed-rate deal.”

If you choose a fixed rate, you are taking a gamble that rates won’t fall dramatically leaving you paying much more than if you had chosen a discount. If you can afford the loan at the start of the term, you should be able to afford it through the fixed-rate period.

Interest rates.

Your own financial circumstances are more important than the wider economic outlook, and may lead you to choose a fixed rate, regardless of what you think will happen to the Bank of England base rate. But if you’re still undecided, you need to look at the bigger picture. Andy Frankish, managing director of broker Mortgage Talk, says borrowers need to consider “whether they believe interest rates will fall, rise or remain broadly the same for the next two to three years”. If you think rates will fall in the short term you may want to choose a short-term discount mortgage. However, there is no guarantee your lender will pass on any Bank Base Rate cuts – only tracker mortgages guarantee your mortgage rate rises and falls in tandem with Bank Base Rate. If you think rates are going to rise, a fixed rate may be preferable.

Outlook for interest rates.

Frankish suggests that the cooling down and now stabilisation of the housing market means rates “are unlikely to vary considerably in the short to medium term”. Currently, the consensus seems to be that if they move at all it will be downwards. However, at the beginning of 2004 experts were predicting a rise that never happened, so forecasts can change. It’s your mortgage and you need to be able to sleep at night, so this is a decision where you need to follow your instinct.

Flexibility.

The good news is that you shouldn’t be forced down a particular route because you are looking for other features on your mortgage. A few years ago borrowers seeking flexibility could only choose a variable-rate deal, but this is no longer the case. While some lenders, including Alliance & Leicester, Nationwide Building Society and Halifax, don’t offer full flexibility on fixed-rate mortgages, others, including First Direct and Yorkshire Building Society do, although the latter only on its offset deal. In addition many allow limited overpayments without penalty. Nationwide, for example, lets borrowers on its fixed-rate deals pay up to 10 per cent extra a year, as does the Yorkshire on its non-offset fixed rates. This flexibility is enough for many borrowers.

Fees.

Another issue to consider is the amount of fees you may have to pay. While in the past borrowers might have expected to pay more for the privilege of fixing their rate, you can’t really say that any more.

At Nationwide, fixed rates and trackers have the same £399 fee. So too at First Direct, where you pay £399 on the repayment mortgage and £295 on the offset deal – the only difference is that you pay for the fixed rate on application to secure the funds. Early repayment charges are also pretty similar. “There are a larger number of fixed-rate deals that have early repayment charges (ERCs), but most of the discounts and trackers also have them,” says Ray Boulger. He says mortgages of all types are available without ERCs, although these deals tend to attract a premium.

So with little to choose between discounts and trackers and fixed rates in terms of cost and flexibility, it really is a matter of deciding which is most important – the security offered by a fixed rate or the chance of rate cuts available on a discount. And the most important thing is to make a decision you can live with.

CASE STUDY:

Dr Robin Maytum is a lecturer in Biochemistry at Queen Mary University in London. He took out a five-year discount tracker mortgage from First Active when he moved to the capital in August.

Before choosing a home loan Robin gave some serious thought to what might happen to interest rates. “There were some quite reasonable fixed rates on offer at the time, but interest rates had been moving up for a while,” he says. “People were saying rates would peak and start coming down within a couple of years, so it seemed rather than tying into a fixed rate, a discount would be a good idea.”

Although he was fairly confident rates would fall in the long term, he wasn’t sure if they had yet peaked, so he paid close attention to First Active’s illustrations of what his repayments would be should his pay rate rise by 1 per cent.

“ It’s obviously very important to me that the sums add up, and even if it went up by 2 per cent I would still be able to afford it,” he says. “I wouldn’t spread myself so thin that a rate rise would cause me problems.” And the fact that he knows he can afford his repayments means he doesn’t have to worry each time the Bank of England announces its decision on base rates. his choice has so far paid off, and he was awarded with a rate cut on his very first month in his new home. “It really all worked out quite well. When the rate was cut in August my repayments went down to 4.49 per cent, which meant it was on a par with some of the fixed rates that were on offer, so it seems to have been a good guess.”