To fix or to float - Jonathan Cornell

To fix or to float

The most common dilemma when taking out a mortgage is; do you take a fixed rate or do you take a floating rate? Historically there have been different winners and losers, when the base rate started rising in July 2003, all those who had locked onto fixed rates were jumping for joy. Some had taken out 2-year fixed rates below 4% and a lucky few had fixed for 5 years at 3.99%. The base rate went from 3.5% up to 5.75% where it peaked in July 2007. At this point the borrowers took out tracker mortgages were the clear winners. Probably the lowest rate was 0.76% below the base rate for 2-years. Over the next 18 months the base rate fell to its current low of 0.5%. Sadly these loans had a minimum payment level written in small print in the contracts which said the payment could not go below 1p, which meant that the lenders would not have to pay the borrowers.

So with the base rate at 0.5% what’s the best thing to do now? I wish it was easy to answer this question but there is no one correct answer for all borrowers. it will vary from person to person. The most important thing to remember is that the base rate is going to go up, the million dollar question is when will it start to go up and by how much. The difference between now and a couple of years ago is that the margins lenders are charging over the base rate now are significantly more than a couple of years ago, whereas in 2007 you could take out a tracker mortgage that was actually below the base rate. Now anything less than 3% below the base rate looks incredible value. So why is this relevant? its crucial because if the base rate returns to its recent average which has been about 5% for the past decade then anyone paying more than 3% over the would be paying a mortgage rate of in excess of 8%, an eye watering amount by anyone’s standards. The good news is that the base rate is not going to go back up to 5% within the near future. For it to do so the economy would not have to had improved it would have to be in a rampant boom.

Experts and economists are in disagreement as to when the base rate is going to start going up. Some have suggested this could be as early as March this year, others have suggested that it would not rise until the end of this year. But at some stage it is going to have to go up. It is at the current level to provide a economic shot in the arm. By having the base rate so low, it encourages borrowing and discourages saving, these are the recognised tools to move from recession into positive growth. However once inflation starts to go up the Bank of England Monetary Policy Committee will increase the base rate to keep inflation at its 2% target.

One sensible way of deciding whether to take a fixed rate or a tracker is to make the decision based on how much of your take home income is made up of your mortgage payment; if it’s a small amount and you have plenty of surplus disposable income then taking out a tracker mortgage may make sense. That way you can benefit from the nice low base rate whilst it lasts and when rates start to go up you will definitely be able to afford the higher payments. If however your mortgage payment is a large proportion of your take home pay then you probably can’t afford for it to increase substantially so in this case its best to take out a fixed rate mortgage as that will protect you against any base rate increases. Ultimately its about risk, if you can’t sleep at night over the thought that your mortgage payment may go up, a tracker rate is definitely not for you. If you still aren’t sure it’s a good idea to have a chat with an IFA or a mortgage broker. They will be able to explain the pros and cons of fixed rates and tracker mortgages.

Jonathan Cornell

Jonathan has been involved in the financial services industry for more than 15 years. He is current working a number of freelance projects, including working part time for First Action Finance as Head of Communications. He has a BA in Economics and an MBA. Jonathan lives in Guildford, Surrey is married and has a one year old son.