Your guide to fixed-rate, tracker, discount, variable and capped mortgages.
What’s the difference between a fixed and tracker rate? And what are the disadvantages of cashback? One of the big decisions you have to make is what type of mortgage deal to take out. You may think you know the difference between a fixed rate and, for example, a tracker rate mortgage. But do you know how a discount rate works and how much difference there may be in lenders’ standard variable rates? Read on to find out more…
Which Mortgage Deal?
There are over half a dozen different types of mortgage deal to choose from and some that look similar at first glance may be quite different when you scratch beneath the surface.
1. Standard variable rate (SVR): This does what it says on the tin but it’s normally not a good deal. It’s never a rate that lenders promote and it’s not used to win new customers. Mortgage lenders are under no obligation to reduce it when Bank of England base rates fall, but may raise it by more than Bank base rates when they increase.
2. Discount rate: This rate is linked to the standard variable rate in that you get a discount off whatever the lender’s standard variable rate is at the time. Confusingly, if you’re choosing between two discount rate mortgages that charge the same interest rate, one may be a better deal than the other.
TIP: If there’s a tie-in period after the discount rate has ended and you have to go back onto the lender’s standard variable rate, look at the level of the SVR and not just the discount rate you’ll be paying for the first few years.
3. Tracker rate: Tracker rates have become much more popular in the last couple of years since interest rates started plummeting. They track the Bank of England base rate and must fall or rise by an identical amount as soon as base rates change. However, they may have a minimum level (otherwise called a ‘collar’) below which they won’t fall, no matter how low base rates fall.
TIP: It’s easier to shop around for a tracker than a discount rate because you only have to worry about how much more than the Bank of England base rate you’re being asked to pay (with a discount rate, you have to look at how big the discount is and the level of the standard variable rate).
4. Fixed rate: This mortgage rate won’t change for the term of the fix. It’s a good idea if your budget (or personality!) couldn’t cope with a rise in rates, but you will normally pay a premium for that certainty.
TIP: You will pay a redemption penalty if you remortgage during the term of the fix and there are also normally limits on how much extra you can pay off your mortgage (10% a year is not unusual).
5. Capped rate: Here your mortgage can’t rise above a certain level but it should fall if the Bank of England cuts interest rates. Some lenders link their capped rates to their tracker rate, others to their standard variable rate and it’s an important difference.
TIP: Capped rates linked to a lender’s tracker rate will normally be the cheapest, so it’s worth finding out how the capped rate deal is structured if you’re thinking of signing up to one.
6. Cashback rate: Here, you’re given a cash lump sum when you complete on the mortgage deal. These mortgage rates seem to drift in and out of favour, so it’s possible there may not be many on the market when you’re looking for a mortgage. They’re normally an expensive way of getting some cash.
TIP: Avoid them if possible because you’ll pay a higher interest rate (than, for example, a competitive tracker) during the lifetime of the deal. It’s normally enough to pay for the cashback several times over.