Homeowners pay hefty fees to close fixed mortgage agreements early before interest rates rise.
It may sound counterintuitive to try to lower the bills by spending more. But it may be wise if interest rates continue to rise as expected.
Mortgage costs have risen rapidly, ending the era of ultra-cheap borrowing.
Rising Bills: Mortgage costs have risen rapidly over the past six months, bringing the era of ultra-cheap borrowing to an end
The average five-year fixed interest rate has already reached a seven-year high of 3.37 percent, according to data analyst Moneyfacts. This can be a major blow to borrowers if they re-mortgage.
The Bank of England’s key interest rate has risen to 1.25 percent, but analysts believe it could more than double to above 3 percent in the next 12 months.
This means borrowers rush to get cheap flat rates before they disappear — even if it means paying hefty fines to get out of deals.
Yorkshire Building Society reported an 88 per cent increase in the value of exit charges paid so far this year, compared to the same period in 2020.
Mortgage brokers have also seen more borrowers swallow expensive fees. Dean Esnard, director at Magni Finance, reports that customers have paid fines of more than £6,000 to close a new five-year deal.
He says: ‘People are concerned – most think that rates will continue to rise. By paying an exit fee, it is covered that the rates will be higher when their current deal expires.’
Rhys Schofield, of Peak Mortgages and Protection, added: “We’ve seen a big increase in customers willing to pay early repayment fees and close a deal now.
“At a time when people see all other costs skyrocket, they’re looking for peace of mind.”
Barney Clarke, 48, a business and economics teacher from Wiltshire, paid an exit fee of £1,400 to terminate his fixed mortgage agreement early.
Inflation battle: Bank of England key rate has risen to 1.25%, but analysts think it could more than double to above 3% in the next 12 months
He had stuck to a rate of 1.9 percent that was due to expire in August 2022. But wary of rising costs, he switched to a new deal in December.
Thanks to rising house prices, Barney and his wife were eligible for a lower loan against its value, which allowed them to get a fixed interest rate of 1.33 percent for five years.
This reduced monthly interest payments by £68, and they will get the exit charge back in 21 months. They were also able to shorten the term of their mortgage and pay off their debt five years earlier.
Barney says, “I could see the rates going up. I’m glad we did it.
Deciding to cancel a mortgage costs some tricky money, but a good real estate agent can help.
Savings should have a chance to beat the cost of leaving, including fees and additional interest.
Mortgage prepayment charges are often calculated on a sliding scale that is most expensive at the outset and falls to about 1 percent over the past 12 months. The lower the fee, the fewer rates have to rise to recoup costs.
Thanks to soaring house prices, some borrowers may also find that they can switch to a lower loan to appreciate
Magni Finance has brought along two fictitious borrowers to show when it is and is not worth paying to close.
The first has a mortgage of £400,000, set at 2 percent. There are 12 months left for the deal and there is a 1 percent early withdrawal fee.
The best five-year mortgage rate is 2.4 percent, so the cost of closing the deal is £5,600 – an exit charge of £4,000 plus a higher interest rate for one year at an additional £1,600.
If mortgage rates were to rise 1 percent over the next 12 months, the best deal could rise to 3.4 percent.
This means that if someone delays taking out a mortgage again, they would pay £4,000 a year more in interest or £20,000 over five years.
Fees: Mortgage prepayment fees are usually calculated on a sliding scale that is most expensive at the beginning and falls to about 1% in the last 12 months
But if they paid to leave earlier, they would recoup the cost in two years and save £14,400 over five years (£20,000 – £5,600).
Next, we set a homeowner with a £300,000 mortgage, set at 1 percent. Again, there are still 12 months to go and a 1 percent exit fee.
The best available five-year mortgage here is 3 percent, as the borrower has less equity in the house. This means the full cost of leaving the mortgage is £9,000 – an exit charge of £3,000 plus additional interest of £6,000 over a year.
If we assume that interest rates rise 0.5 percent this time over the next 12 months, the cheapest mortgage would be 3.5 percent.
So if the borrower waited to take out the mortgage again, he would pay £1,500 more a year and £7,500 over five years. This would be £1,500 less than the amount paid to leave, leaving them out of pocket.
Interest rates would have to rise by at least 0.6 percent over the next year to allow the borrower to break even.
But nobody knows what will happen to the interest. Analysts’ opinions differ and borrowers should take this into account.
Martin Stewart, director of advisers London Money, says: ‘It is difficult to predict interest rate rises and important life events must also be taken into account.
“One option is for borrowers to start transferring early to secure current rates, as offers are often valid for up to six months.”
Our calculations do not reflect the fact that exit charges are typically added to a homeowner’s mortgage and thus can accrue interest over time. But brokers should keep this in mind when helping you make a decision.
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