Homeowners should be wary of rate rises – but shouldn’t panic

By Ben Gosling of TurnKey Mortgages

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The Money Advice Service released a warning on 2 October that suggested as many as a fifth of UK homeowners would struggle to cover their repayments in the event of an increase in interest rates (1).

The warning comes after months of speculation as to when the Monetary Policy Committee – the nine-member Bank of England Committee responsible for setting the base interest rate each month – will finally decide that the time has come for rates to start rising again.

For the past two months, two members of the MPC have voted in favour of a 0.25% increase; the first break in its unanimity since July 2011, over three years ago (2).

Most experts currently believe that the MPC will vote for a rise early next year, though many are concerned that this will have a negative impact on the millions of households that have become used to low mortgage rates over the past few years.

Surveying just over 3,000 mortgage holders, the Money Advice Service discovered that:
– 28% don’t know what interest rate they are currently paying
– 47% would struggle to cover an increase of up to £150 each month
– 19% would struggle to cover any increase at all

If applied to the UK as a whole, this 19% would account for 2.1 million mortgages (3).

This is of course a cause for concern for the MPC, and a chief reason for their caution. Research into household debt and spending, published recently by the bank of England, concluded that increased household indebtedness dampens consumer spending and leads to longer and deeper recession (4).

However, some members of the MPC believe that waiting too long to increase interest rates could lead to sharper increases in the future (5). This is evidently a tricky balance to maintain, and the central bank faces a difficult decision.

“Gradual and limited”

When the base rate does begin to rise, it is expected to do so by no more than 0.25% per quarter (6). Homeowners should therefore be aware that, whilst it is important to account for an imminent increase, they shouldn’t panic.

As observed by the Council of Mortgage Lenders, for the average mortgage – which, as of the end of 2013, amounted to just under £115,000 (7), (8)– the £150 increase that nearly one half of households would struggle to cover represents a 2.0% interest rate increase (9). If the Bank of England’s assurances are to be believed, this would not happen for a full two years.

If you are a mortgage holder, you should consider taking the following practical steps:

1. Check your mortgage documentation or contact your lender to confirm what interest rate you are currently paying. Find out whether the rate is a fixed or variable rate, when the initial deal period ends, whether any early repayment charges (ERCs) will apply for switching out and when they apply until.
2. Use a mortgage calculator (such as the one on the TurnKey Mortgages website, linked at the top of this article) to find out how much a 0.25% increase in your interest rate would increase your monthly repayments by. Repeat this test for larger increases; 0.5%, 1.0% and so on.
3. If you believe you would struggle, strongly consider whether you could reduce any of your household spending to accommodate the increase. Companies such as the Money Advice Service and National Debtline offer free calculators and planners to help you with your day-to-day budget.

Finally, contact a professional mortgage advisor to see if switching your mortgage could save you money each month. Factors such as ERCs and mortgage fees will make it difficult to say exactly whether a new mortgage will be cheaper overall than your current deal; however, a professional advisor will take all of your personal circumstances into account and help you to find out if there is a more suitable product out there for you.

Sources
[1] https://www.moneyadviceservice.org.uk/en/static/interest-rates
[2] http://www.bankofengland.co.uk/monetarypolicy/pages/decisions.aspx
[3] https://www.gov.uk/government/statistical-data-sets/live-tables-on-repossession-activity
[4] http://www.bankofengland.co.uk/publications/Documents/quarterlybulletin/2014/qb14q304.pdf
[5] http://www.ft.com/cms/s/0/04b464a2-e679-11e3-9a20-00144feabdc0.html#axzz3F5pKvco4
[6] ibid
[7] https://www.gov.uk/government/statistical-data-sets/live-tables-on-repossession-activity
[8] http://www.bankofengland.co.uk/statistics/documents/mc/2013/dec/moneyandcredit.pdf
[9] http://www.cml.org.uk/cml/media/press/4021

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