Donít rule out standard variable rate mortgages

Slipping onto the standard variable rate (SVR) at the end of your initial mortgage deal used to be something that less savvy borrowers found themselves doing.

The thousands of mortgage deals that were available meant if you were organized you could remortgage onto another deal without going anywhere near your lender’s much higher SVR.

The result could be savings of hundreds of pounds every month on your mortgage repayments.

However, the credit crisis means that mortgage borrowers are having to adopt a new way of thinking and may actually be better off slipping onto their lender’s SVR.

Many homeowners who are coming to the end of their mortgage deal may have no other choice than to move onto their SVR because they simply cannot get a deal elsewhere.

But for some borrowers, it may make financial sense use an SVR even though they may have access to deals with lower headline rates.

It is all to do with the "effective rate" rate on a mortgage as opposed to just the headline rate which is advertised by lenders.

The effective rate on a mortgage deal is the actual true rate and includes all the cost of a mortgage, such as arrangement and exit fees.

Arrangement fees have soared in recent years and many borrowers are now faced with charges of more than £1,000 to get a deal through.

It is worth looking at all these costs when comparing mortgage deals rather than simply looking for the lowest headline rate.

For example, take a mortgage with an advertised rate of 5.49pc. If the deal has a 2.5pc arrangement fee and a £175 exit fee, then someone looking to borrow £125,000 would actually end up paying a much higher rate of 6.81pc once these additional costs are taken into account.

Additional charges can also affect the rates on other types of mortgages as well, such as tracker and discount deals.

So why do lenders use the effective rates to advertise their deals? In most cases, borrowers simply would not look at these deals if the effective rate was the rate that was advertised.

Take our example above where borrowers would always initially be drawn to the 5.49pc rate rather than the 6.81pc one, which is a far less attractive rate.

Arrangement fees are clearly an easy way for lenders to boost their profits because borrowers focus more on the headline rate than they do on the fee.
As such, before borrowers step onto the property ladder or remortgage, they should calculate the effective rate of their mortgage deal.

The cheapest mortgage could be the one people overlook because they have not calculated the effective rate.

As a general rule of thumb, the smaller the mortgage the more important the fees become, whereas the bigger the mortgage – provided the fee is a flat rate and not a percentage – the best value mortgage may well be the one with the biggest fee.

By Myra Butterworth

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