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It’s never possible to say for certain whether you will save money with a short-term deal or a long-term fixed rate mortgage. Of course you need to take a view on the future course of interest rates and consult expert opinion, but even economists can get their forecasts wrong.
At the moment, the consensus view is that we will remain in a low interest rate environment for some time, but there are no guarantees and economic events over recent years have taught us to expect the unexpected.
Your choice of mortgage is as much about your individual circumstances and your own risk tolerance profile as it is the wider economic outlook.
Long-term fixed rate costs have fallen but security still comes at a price
Analysis by Private Finance has found that the 10-year cost of a 10-year fixed rate mortgage fell by £3,595 for the average borrower between December 2015 and December 2016 on a £150,000 loan.
However, average rates on 10-year deals are up by 0.23 percentage points in two months, suggesting borrowers may need to act fast to secure a good deal on a longer-term fix.
Ultimately though, you still need to decide whether it is worth paying extra for the security of knowing that your monthly payments are not going to increase.
The price difference between 10-year fixes and 2 or 5 year fixes has increased in recent months, pushing up the monthly ‘security premium’ for longer-term borrowers. In December 2015, the average borrower with a £150,000 mortgage would have paid £111 more each month as a result of fixing for ten years instead of two; £85 more than if they opted for a three year fix; and £48 more each month than if they fixed for just five years.
In December 2016, the monthly ‘security premium’ for a 10 year fix reached £115 compared with 2 year fixes; £89 a month compared with 3 year fixes; and £55 a month compared with 5 year fixes. However, these incremental increases can still look modest when compared with the certainty and peace of mind that comes with a decade-long fixed rate. For example, paying £55 a month extra for a 10 year rather than a 5 year fix amounts to just £11 a month for every extra year of security.
But, on the plus side you may end up saving money on fees with a longer-term deal. Many mortgage deals come with arrangement fees of over £1,000. If you opted for a series of 2-year deals instead of one 10-year fixed you could end up paying £5,000 or more in fees over the course of a decade. A mortgage broker can do the calculations for you to work out what type of home loan is most appropriate for your needs.
Are you sacrificing flexibility for stability?
While long-term fixed rates offer security they are not always as flexible as you might like. Most come with a hefty early repayment charge if you need to exit the deal early and you cannot always take the mortgage with you if you move home.
Shaun Church, director at Private Finance, says: “In the right circumstances, fixing for longer has several major advantages for homeowners. For one, borrowers are insulated from the rate rises that they might otherwise be exposed to when their short term deals end.
“For many, the additional cost of a long-term deal is a small price to pay for extra peace of mind, particularly when rates are at historic lows and there is a growing sense of uncertainty about the long-term outlook for household finances and the economy.”
But he cautions: “Different borrowers have different needs, and some would benefit from the greater flexibility or initial affordability that a short-term fixed offers. We would always advise borrowers considering their options to seek independent mortgage advice.”