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Unlike fixed-rate mortgages, where you pay the same rate of interest for a set length of time, variable rate mortgage interest can go up or down. This means that your mortgage repayments could change from month to month.
Depending on your individual circumstances, there are benefits to both fixed and variable interest rates, so it’s important to understand how the rate type you choose will affect you.
There are three types of variable rate mortgage:
Tracker rate mortgages
Discount rate mortgages
Standard variable rate (SVR) mortgages
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The best variable rate mortgage for you will depend on your individual circumstances and your appetite for risk, so it's a good idea to review this information and discuss at greater length with a mortgage expert, before making a final decision.
Every lender has a standard variable rate (SVR), which is their default interest rate and usually higher than other rates. When you take out any other type of mortgage deal, you'll automatically transfer onto your lender’s SVR once that deal comes to an end - usually after two, three, five or ten years, depending on the term you chose.
Standard variable rates are set by the lender, who also decides when and how much to increase or decrease them by. Although every lender will be influenced by changes in the Bank of England’s base rate, SVR rates (and therefore also discount rates) are not directly linked to any external economic indicator. This makes it more difficult to predict when your mortgage repayments may rise or fall.
SVRs are rarely the cheapest option, although in the current market, it is worth speaking to a broker about this. In some circumstances, however, staying on an SVR may be the best option. For example, if you’re unable to qualify for a remortgage at the current time, but the product transfers available with your existing lender won’t save you any money. They can also be helpful if you’re looking to move home within a short period, as you won’t need to consider ERCs.
Tracker rates are the only type of variable rate mortgage where fluctuations in rate are not entirely in the hands of the lender. They follow what’s known as an external economic indicator - this is usually the Bank of England’s base rate.
Rate changes happen whenever the economic indicator that they are following (or tracking) rises or falls. This means that it can be easier to predict whether your rates may be due to increase or decrease than it is with other variable rate types, simply by keeping up to date with financial news and mortgage market patterns.
Tracker rate deals have a set length, and whilst it’s most common to opt for a two-five year term, some are available for the lifetime of the mortgage. Each lender prices their tracker rates at a percentage (of their choice) above the external indicator they are following.
This percentage stays the same for the length of the deal, so your rate can only rise and fall based on that set percentage.
For example, a tracker rate set to the Bank of England base rate (currently 4.5%) plus 2%, would be charged at 6.5%. If the base rate was to rise to 5%, your rate would change to 7%, as the 2% charged by the lender remains the same.
Discount rate mortgages also have a variable interest rate, so they can rise or fall throughout the term of your deal. These changes are a little more difficult to predict, however, as rises and falls in the rates are in the hands of each individual lender.
A discount rate is set at a percentage discount on the lender's SVR. The percentage of the discount won’t change throughout the length of the deal, but the lender can change the SVR attached to it at any time.
For example, if the lender’s SVR is 5% and a discount rate gives you 1% off, your interest rate would be 4%. If the SVR rises to 6%, however, you would keep your 1% discount, but the interest rate you'll pay would rise to 5%.
Again, these deals most commonly last for two to five years, but are available on a lifetime basis, if preferred.
Each type of variable rate mortgage has its own advantages, as they all work slightly differently. If or how these benefits apply to you will depend on your individual circumstances:
Tracker rates are generally more affordable than fixed-rate mortgages
They follows an external indicator, so changes are easier to predict than for other variable rate types
Lifetime trackers usually have no early repayment charges (ERCs) or ERCs that will only apply for the first few years of the deal
At the current time, many discount rates are the most competitive available
You are not locked in to an SVR rate so there are no fees to pay if you leave, and you can remortgage at any time
It’s usually possible to overpay your mortgage without being charged a fee, which will save on interest in the long-term, as it will allow you to repay your mortgage more quickly
In the current market, SVRs are sometimes cheaper than fixed-rate deals
The main disadvantage of variable rate mortgages is a bit more general, as they all share in their unpredictability. This means that no matter whether you have a tracker, discount, or SVR mortgage, your payments can go up or down at any time.
Those on a strict budget may prefer to opt for a fixed-rate mortgage. Fixed-rate mortgage interest rates will not change at all for the length of the deal, so you’ll always know how much your repayments will be.
SVR and discount rates also have the further disadvantage of being more difficult to predict than a tracker rate. Tracker rates are often the most suitable option for people looking for a variable rate, but wanting slightly more idea of when their rates may change.
It’s also important to note that tracker rates and discount rates are deals that you are locked into for a specific period of time, unless you pay ERCs (early repayment charges) to leave them. This could be a disadvantage if your rates suddenly rose considerably and you were unable to pay the fees necessary to remortgage.
SVRs can be a useful ‘wait and see’ rate. They are not always the best rate to stay on indefinitely, but if you’re planning to move home, or are not sure whether now is the best time to tie yourself into a fixed term deal, this type of rate offers you the flexibility to switch mortgages at the optimum time for you.”Kellie Steed, Mortgage Content Writer
It’s far simpler than you might think, and the name is a good indicator. A fixed-rate mortgage cannot change for the duration of the fixed-term you lock into. A variable rate can change at any time, even in the introductory period.
A standard variable rate (SVR) is not a fixed-length deal, so there are no time limits applicable. All other rate types have a tie-in period, however, and when they come to an end, the SVR is the lender’s default rate that you will be placed onto.
When a variable or fixed-rate deal ends, you will revert onto your lender’s SVR (standard variable rate). To avoid this, you will need to look at a remortgage or product transfer.
A mortgage collar (or floor) is a limit that your interest rate can never fall below, despite what happens to any external indicators it may be following. It’s important to look out for high collars, as this will minimise the benefit of any variable rate it applies to.
A cap, on the other hand, is very beneficial. Also known as a ceiling, this a level that your interest rate will never rise above, regardless of financial indicators. Caps are hard to find, but can offer excellent peace of mind when taking out a variable rate product.
Your loan to value (LTV) will affect your access to lower rates no matter if you take out a variable or fixed rate mortgage deal. This is because the lower the LTV, the lower the risk to the lender, so they reward this with more attractive interest rates.
The fees involved with any mortgage are very similar, and you can find out more about them in our guide to mortgage fees. However, you may find that the arrangement fees are lower for variable rate deals than fixed-rate deals, generally.
There are both tracker and discount rates that you can take out for the life of the mortgage term, if that’s preferable to you, however, you will need to bear in mind how much fluctuation this leaves you open to. If you have no concerns about a rise in interest rates, staying on a variable rate can certainly ensure you benefit throughout periods of falling interest.
You can usually repay any type of mortgage after the first six months, however, you'll find that in most cases, you would have to pay early repayment charges (ERCs) in order to do this. These can be multiple thousands of pounds and are typically more expensive the further you are from the end of the deal.
Not all variable rate mortgages charge ERCs. For example, if you're on the lender's standard variable rate (SVR), this won't have a fixed end date, so you should be able to remortgage any time you want to without penalty in the vast majority of cases.
Discount and tracker deals are slightly different, as the deals have a set length, which means they effectively have an end of deal date, similar to a fixed-rate mortgage. This means that most discount and tracker deals will still require you to pay ERCs in order to leave them early.