Difference Between Fixed and Adjustable Rate Mortgages
Mortgage is one of the biggest expenses that people make once in their lifetime, which is why it is imperative that you choose a deal that best suits your budget. There are two types of mortgages: fixed rate and variable rate. The latter is split into three categories: standard variable rates, trackers and discounts.
A fixed-rate mortgage will have an incentive period – whether it is two years, five years or ten years – in which you are to pay off instalments at fixed interest rate regardless of base rates.
According to financial experts, fixed-rate mortgage deals are great as you know beforehand how much money you are about to pay every month. This may help you budgeting. You will find various types of deals in this single category, so consider interest rates and mortgage fees. Instalment amount will not go up even if bases rates hike. However, your payments will not fall if they plummet. Fixed deal interest rates can be higher than variable-rate mortgage deals.
While choosing a fixed-rate mortgage deal, you will have to consider the incentive period more carefully. If you switch from fixed-rate deal to variable-rate before the term expires, you will end up paying high penalty fees.
As your incentive period comes to end, you will be put on the standard variable rate. Borrowers are normally confused with the length of their mortgage in case of fixed-rate deal. The shorter the fixed deal, the better. For instance, a two-year fixed rate mortgage is better than fiver-year deal. You will pay higher interest rates for longer fixed period deal because a lender will have to take on more risk of changing interest rates.
What Which? Says
Typically, you will pay more interest on longer fixed-rate mortgage deal, but a survey by Which? has shown that it is not always true. Three-year deals are cheaper than two-year when deposit amount is 15%. A fixed-rate mortgage can be a good idea if you want to be certain about your repayments, but it is not easy to decide on the term.
Which? says that the term you choose for your mortgage deal depends on your affordability and your future plans, for instance, whether you want to stay in your house or you will move. Consider all factors before you choose these deals. If you are not certain about your goals, it is better to choose a shorter fixed rate term. Experts say that sometimes even a cheaper deal may prove more expensive than others. You should take account of all costs associated with a mortgage.
What about variable rate mortgage?
These mortgages do not carry fixed interest rates. They fluctuate according to the base rate of Bank of England. Your monthly instalment will be more if the base rate moves up and the installment will go down if the base rate goes down. All types of these deals have different features.
A standard variable interest rate depends on the base rate set by the Bank of England. You cannot know in advance how much money you will pay every month, but you do not need to bear prepayment penalty even if you settle your dues in one go at any time. Each lender sets their own SVR that can be two or five points above the base rate. Do enough research before choosing such mortgage deals as these options are rarely available for first-time buyers.
Another option is discount rate mortgage. The lender will take a small percentage, for instance 2%, off the SVR for a particular length of time. Your mortgage deal will be cheaper as you are likely to pay less. However, there is no guarantee that your lender will reduce SVR even if the base rate drops and hence you will not be able to avail the full benefit.
Another deal that interests to borrowers is a tracker mortgage. It also fluctuates according to base rate of Bank of England but due to economic changes not commercial interest of lenders.
Choosing a mortgage deal is no picnic. A fixed rate mortgage deal can help you make a budget, but the drawback is interest rates are higher than variable mortgage deals. Whatever the mortgage you choose, make sure that you make a decision with a broader point of view.