The interest rate is the cost of your mortgage, but what affects it?
Borrowing money comes with a cost - interest. This is expressed as the interest rate, a percentage that will be added to the balance of money you owe every year.
With a loan as big as a mortgage, the interest rate can add many thousands to the amount you will pay over the entire term. The lower the rate the less you will have to pay. So it’s worth taking time to find the best one for you.
However, interest rates vary a lot for number reasons, ranging from your personal circumstances to national economic trends and keeping track of whether rates are going up or down can be tricky.
What affects headline mortgage rates?
These factors will affect the headline mortgage interest rate you see advertised, keeping an eye for these in the headlines can give you an idea of whether rates are likely to go up or down.
- The Bank of England’s Base Rate of Lending – this is the cost of money set by the state.
- LIBOR (London Interbank Offered Rate) – the market price of money.
- The number of repossessions – this is an indicator of how risky it is to lend money, the riskier it is, the higher the rate.
- The unemployment rate – this is also used to measure the riskiness of lending.
- Mortgage market competitiveness - lenders want your business, so if their competitors are offering better rates, they are likely to lower rates to entice customers.
However these will only affect the advertised representative rate, not the mortgage rate you will be personally offered.
What affects your mortgage rate?
The average mortgage rates you are actually offered depend on a number of assessments lenders make based on your personal circumstances. Two of the key ones are:
- Your loan to value ratio (LTV) – this is the size of your deposit versus the amount you want to borrow, the bigger your deposit, the smaller your LTV, the lower your interest rate.
- Credit score – this is an indicator of how reliable you are to lend to, it is a rating based on your borrowing history, financial circumstances and other factors such as whether you have moved address frequently.
Different types of mortgages also have different mortgage rates.
With a fixed rate mortgage you pay a set rate for a certain period of time, usually two or five years. You get the security of knowing exactly what your repayments will be, but fixed mortgages usually come at a higher rate of interest. Also, the longer the fixed period, the higher the rate will be.
Standard variable mortgages go up and down over time, according to the standard variable rate set by the lender. This means that your mortgage interest rate and repayments can go up and down, depending on the economic climate.
Tracker mortgages follow the Base Rate, usually at a set percentage above it (although in the past, trackers which track below the Base Rate were available). for this reason, trackers are something of a gamble – you can’t be sure what your mortgage repayments will be.
With an offset mortgage, your mortgage and savings account are combined into one single account. This means that the money you have in your savings account can be counted as an overpayment towards your mortgage. As with a standard mortgage, you can get variable, fixed and tracker rate offset mortgages. They can have a higher interest rate, but this extra interest might be cancelled out by the savings you can make over time.