28 January 2021
Gap between two- and five-year fixed-rate mortgages narrows
Although interest rates look unlikely to rise anytime soon given the impact of the pandemic on the economy, borrowers are favouring fixed-rate mortgages as pricing is so competitive. And while two-year fixes used to be the fix of choice, the popularity of five-year fixed rates has grown as their pricing has become comparatively cheaper. Indeed, the gap between two- and five-year fixed-rate pricing has narrowed to its lowest level since 2013, according to Moneyfacts, with the annualised rate gap now just 0.27 per cent.
Given this pricing differential, it is not surprising borrowers may be tempted to fix for longer. Fixing provides security against interest rate rises and helps with budgeting, so with so much uncertainty around, it may be appealing to do this for five rather than two years.
However, before locking in for five years, borrowers should consider whether their circumstances may change during that timeframe. Fixed-rate mortgages carry early repayment charges (ERCs) during the fixed period if you move to another property and cannot take the mortgage with you, or sell your home and pay back the loan. These ERCs could run into thousands of pounds so are worth avoiding if possible.
A shorter fix may make sense if you are buying at a high loan-to-value (LTV) and planning on doing some works which increase the value of the property. If you opt for a five-year fix instead, you might end up qualifying for a lower LTV but will be stuck on the higher rate until the five years are up.
It might also be worth considering a shorter fix if you expect interest rates to fall, so new mortgages become cheaper. However, given interest rates are currently 0.1 per cent, it is hard to see how much further they could fall.
While the premium of a five-year fix is relatively small, two-year fixes are cheaper. But with a two-year fix you would likely have to remortgage in two years’ time. This could mean paying another arrangement fee, possibly broker costs etc, wiping out any savings made opting for slightly lower rates.
Another scenario worth considering is if your employment or income is likely to change. If you are self-employed and business projections show significant improvement, you might be in a stronger financial position in a couple of years’ time and able to get a better mortgage. On the other hand, if you are about to go self-employed, lenders typically want two years of accounts so it may be worth opting for a longer-term deal as you build up that history.
Those buying with friends may also plan to move within five years – again, another reason for opting for a shorter fix. But those who are not planning to move and are looking to keep costs low and budgeted for while they put children through say, nursery or private school – the certainty of a five-year fix could be just what they need.
It is worth seeking advice – get in touch for more information as to whether a two- or five-year fixed rate, or indeed another product, is most suitable for your circumstances.