Fixed and stuck – why longer is not always better

Harry Arnold - Anderson Harris

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Published: 10th February 2021

This Article was Written by: Harry Arnold

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How long-term fixed-rate mortgages can become a hindrance to young property buyers./span>
When it comes to the largest financial decision you will ever make, nobody can be blamed for choosing the path of certainty.

However, when the mortgage products you buy to protect yourself against perceived risks have the potential to incur huge costs along the way – particularly if those costs are…

  • not planned for,
  • hard to avoid, or
  • you can’t negotiate yourself out of them

…then thoughtful and forward-thinking advice is vitally important when deciding what mortgage is best.

Is longer always the better option?

Long-term fixed-rate mortgages are cheap, very cheap. At the time of writing, the spread between the cheapest 2-year fix (1.14%) and 5-year fix (1.29%) is only 0.15%.

With this small rate increase also comes certainty of payment for 3 more years, and the ability to avoid the costs and time involved in refinance. It’s a no brainer right? Well, it certainly is for some, but not necessarily for everybody.

Here’s why…

A standard 5-year fixed-rate comes with early repayment penalties. These are usually either:

  • stepped percentage penalties (for example 5% in year 1 dropping in sequence to 1% in year 5), or
  • fixed at the same level during the term of the fixed-rate.

So, on a mortgage of £450,000 in year 3 the penalty for breaking the deal may be 3%. This equates to £13,500 in costs. Ouch!

In fact, it may wipe out a significant portion of any capital gain you may have made on the property in that short time. Also, to compound the misery, all the while you have been paying a higher rate of interest than you could have been paying on a 2-year deal.

So, when making a choice on a mortgage deal, certain considerations need to be factored in. These include:

  • Where are interest rates going?
  • Is there a chance I may want to redeem the mortgage?
  • How long before I want to move or borrow more on my house?

Borrowing big

In 2020, the UK Government borrowed £350bn on the basis it was cheap to do so now and in the future. Base rate obligingly dropped to 0.10% (with gossip of it going negative) and the Economy shrank by an estimated 8.2%.

With inflation now well below the 2.5% Bank of England target and the Economy in need of bandages and nurturing, not putting on the breaks, there is a view that it may be another decade before we see any major increases in the base cost of borrowing. Remember, following the last credit crunch, this took 8 years!

It’s also worth considering that, with house price growth in the last 12 months at near 4.7% (obviously fueled by the “race for space” and the stamp duty tax break), experts don’t see many reasons to believe that the cost of new mortgages will be going up any time soon.

A more realistic picture

In fact, if you bought a home in 2020, our view is that by the time you come to the end of your 2-year deal you will be looking at something comparable in rate for something new.

This is because mortgage lenders are already starting to move away from “risk adjusted return” rate offerings as they start to compete again for new business. The resulting deals are based on the underlying cost of the debt (which is as cheap as it has ever been in history). It means the likes of 90% Loan-To-Value (LTV) mortgages are back, so too are 5.5x multiples for some high earners. We’re certainly seeing rate changes signally reductions, not hikes.

So what about you?

The English housing survey 2018/19 estimated that people aged 35 -54 were 70% more likely to move property than older demographics. Conversely, the average of age of first-time buyers has now risen to 34.

To us, this shows the risk of falling foul of mortgage penalties is greatest amongst young homeowners who may wish to move within 5 years. It is therefore critical for this demographic of buyers to receive tailored independent advice.

Young homeowners can ill-afford these costs with the smaller equity they have In property. They are also more likely to move on or renovate than more seasoned homeowners.

Paying early repayment penalties also feels like a tax on your progress and, while lenders do offer an ability to port your mortgage, this tethers you to them when you decide to move (and prevents you turning to others who may be cheaper or lend more).

This can leave you with multiple products with multiple end dates, further compounding the problem if you want to move or refinance.

Cheap 5-year fixed-rates for a set and established family home makes complete sense, especially if you have a large liability and dependents for which you want to be able to provide stability. They may indeed be suitable for some first-time buyers given their personal plans. A word of advice though, they are certainly not for everyone.

If you are considering taking on a lengthy fixed-rate mortgage, do get genuine independent advice and have a real think about the long-term plans for your home. For example:

  • Will you really want to be in the same place in 5 years’ time?
  • What are your plans and ambitions for what you want to do?
  • Where you want to be? and
  • Will that fixed 5-year rate be a help or a hindrance?

Can we help?

At Anderson Harris, our team of specialists have decades of experience helping people find the best mortgage for their property and financial plans and ambitions. We help a broad spectrum of clients, from those just getting on to the property ladder, to those downsizing or moving into residential care. They come to us for independent, clear advice and mortgage deals which support their plans now and in the future.

If you need advice in relation to your property ambitions, please call us for an initial chat on tel 020 7495 6633 or contact us via this website.

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