By Christina Jordan
Inflation is on the rise and if you’re a mortgage borrower you should stand up and take notice because the mortgage rate you pay could potentially be affected.
In the latest announcement made by the Office of National Statistics, the annual rate of inflation shot up from 1.9 per cent to 2.9 per cent between November and December– marking a record increase and a nine-month high.
The announcement was enough to get economists around the country scrabbling frantically for their calculators and revising their interest rate predictions for the year.
Rising inflation needs to be reined in by the Bank of England, and one way to control it is to increase the Base Rate (interest rates) currently at a record low of 0.5%.
But if Base Rate goes up, so do mortgage rates.
Missing the target
When it comes to setting interest rates the Bank is tasked with keeping inflation between 1% and 3%. If it moves outside this range, it has to explain itself to the prime minister, and remedy the situation – by changing interest rates for example.
The January inflation figures, published in mid-February, are widely expected to show inflation has crashed through the 3% mark, especially given the New Year VAT increase. This could leave the Bank of England with little choice but to consider an interest rate increase to stem the inflationary tide.
How could this affect mortgages?
If the Bank of England increases interest rates to curb inflation, all mortgages directly linked to Base Rate - such as tracker deals - will automatically rise. It’s also likely to affect borrowers on a discounted variable or standard variable rate, which are indirectly linked to the Base Rate.
And with millions of people currently enjoying low repayments on variable and tracker deals, that’s a lot of people exposed to potentially higher mortgage rates.
Is it time to fix?
Fixed rate mortgages are set for an agreed period, whatever happens to interest rates.
They are currently more expensive than trackers but, if you are happy to pay a small premium, the payment security of a fix could be invaluable. This might be important if you are on a tight budget, for example, and simply cannot afford a large increase in your monthly repayments.
The cheapest two-year fix is currently from Principality Building Society at 3.44% with a fee of £999, available for borrowers with 35% upfront, or First Direct offers a slightly higher rate with a smaller fee - 3.47%, £498. If you only have a 25% deposit, Coventry Building Society’s two-year deal at 3.55% with a £999 fee is worth a look.
If you’d prefer to lock in for longer, there is a handful of five-year fixed rates available at less than 5% - HSBC has the cheapest at 4.73% with a £999 fee, but you need to have 40% equity or deposit upfront.
Remember that although longer-term fixes look expensive compared to some deals currently available, they still represent good value historically, give you payment security, plus you save on the switching costs you would face two years down the line with a short-term deal.
Could Base Rate stay low?
The inflation figures have made it more likely that Base Rate will increase sooner rather than later, but there are still absolutely no guarantees – it could remain at 0.5% for the rest of 2010 and beyond, as many highly-respected economists predict. The truth is that nobody knows.
If you are happy to take the chance on continued low interest rates, a tracker will offer you the cheapest monthly repayments available. There’s a good choice of rates below 3% for those with a substantial deposit or equity.
The cheapest is HSBC’s lifetime tracker at 2.49%, available to those with 40% upfront (£999 fee). Importantly, it has no Early Repayment Charges, so you could switch to a fixed rate without penalty.
If you have a 25% deposit or equity, Yorkshire Building Society’s 2.64% two-year tracker is a competitive option, and comes with a modest £495 fee.
Of course, existing borrowers should first look at whether or not they can beat their own lender’s standard variable rate, as some are still extremely low.
If you've got a mortgage in mind and want to know how much you'll be paying back each month, try our mortgage calculator tool:
