Does a tracker mortgage offer reward or risk?
You may or may not have heard of a tracker mortgage. They tend come and go in popularity depending on what is happening in the wider mortgage market. When interest rates are rising, most people would automatically consider a fixed rate their go to option. Trackers become more attractive when rates are dropping or stagnant. To find out whether or not a tracker is worth considering for your next mortgage read our in depth guide here.
In essence tracker products are a form of variable rate deal so they can fluctuate up or down. The rate of interest you pay on day one of your mortgage is likely to change over the term of your chosen product. Trackers are almost always linked to the base rate of interest set by the Bank of England (BOE). They follow at a set margin above or below the BOE base rate.
For example, at the time of writing this article, the BOE base rate was 5.25%. If you had a tracker mortgage at BOE +0.50%, then the payable rate your monthly repayments would be calculated on would be 5.75%.
If the BOE base rate increases, your mortgage payable rate will increase by the same amount. Likewise, if the BOE rate starts to drop, your payable mortgage rate will follow it downwards also. The margin above or below the BOE rate will remain the same.
Predicting how the interest rates will fluctuate is impossible. However your own attitude to risk, personal goals and general market sentiment should all be considered.
What are some of the benefits of a tracker mortgage?
Tracker mortgages can sometimes (but not always) be offered with a rate of interest a little lower than a fixed rate equivalent. So your initial monthly repayments may be a little cheaper with a tracker.
If the BOE were to drop their base rate of interest, mortgage repayments on a tracker will automatically become cheaper. This can happen at any point and there is no limit on the number of occurrences. The new payment amount will take effect without you needing to do anything.
Trackers may include flexible features that allow you to move to anther product / lender. Even if you are mid-way through the initial term of the product.
Some may allow unlimited penalty free overpayments. If you have a lump sum incoming and you want to reduce your balance without financial penalties this could be useful.
Mortgage offset accounts may be included with some tracker products.
What are some of the drawbacks?
Tracker mortgages follow the Bank of England base rate of interest in both directions. Your mortgage repayments can quickly become much more expensive if there are rapid increases in the BOE base rate.
There may not be a limit to how high interest rates could potential go. Additionally, there is often a lower limit that your payable interest rate cannot follow. This is a rate floor or a collar.
There are not as many tracker mortgages available to choose from when compared to other product types.
Trackers that don’t include more flexible features may have penalties to pay if you switch lender / product before the deal expires. If interest rates and therefore monthly repayments are rising, naturally you would want to review your options. However, you could potentially be facing a large penalty to switch deals before your existing deal becomes unaffordable.
What happens to my monthly repayments if my tracker mortgage rate changes?
In theory the Bank of England can set their base rate at whatever they deem to be necessary. If they decide to make a change to their base rate of interest, this will normally kick in straight away. Your tracker rate may adjust instantly as well, or it may take effect after your next regular mortgage repayment. It remains wise to ensure that you can continue to afford your mortgage repayments even if there were to be a sharp increase to the payable interest rate.
What to look for in a tracker mortgage.
- If the tracker links to the Bank of England base rate or something else? There are other types of variable rate on the market. Some trackers follow a rate set by the issuing bank themselves which is not always guaranteed to “track” the true BOE rate. Check with your bank or a broker if this the case.
- What the margin above or below the BOE base rate will be. Check whether or not there are limits to how low / high the interest rate can move. Also known as floor and ceiling, or cap and collar.
- Your tracker may have flexible features. Check to see what they are and if they will be useful to you. A slightly cheaper deal may be possible if you don’t require some of the flexible features. However, having zero early repayment penalties is a very handy thing to have as you can re-assess your options at any time.
- Make sure you factor in what your future monthly repayments could be after pricing in increases to the BOE base rate. Trackers can be risky if you aren’t aware of the implications should rates rise.
- Check how long the rate is valid for and what the early repayment penalties are. Common options are available for 2, 3 or 5 years but some can last a lifetime, also known as full term.
- Compare the best tracker to the best fixed rate alternative before committing to a new deal.
Post compiled by Grant Carpenter CeMAP, CeFA – 15 years of regulated mortgage advice.
Please note that the content listed within this post is purely for information purposes only and does not constitute advice.
