When Rates Start to Rise

If you're a homeowner on a tracker mortgage, you'll be feeling pretty pleased with yourself right now.

The Bank of England's Monetary Policy Committee has slashed the base rate from 5% in October to a record low of just 0.5%. If you've got a £150,000 tracker mortgage, you could be paying nearly £400 a month lees in repayments!

Enjoy it while it lasts, however, because one thing's likely - sooner or later, interest rates will rise again.

When will interest rates rise?

No-one knows exactly when interest rates will rise again, or by how much. But, for the purposes of this piece, we've assumed rates will stay at 0.5% until April 2010, after which they'll steadily increase each month until they reach 5%. They'll then stay at this level until March 2012.

Important note

This is not a forecast. It's a scenario to understand the impact of rising interest rates on your mortgage repayments.

Mortgage case study

A best-buy, three-year, fixed rate mortgage for people borrowing up to 75% of their home's value of 3.99%.

We're comparing this mortgage to a lifetime tracker with the same loan-to-value ratio offering a current rate of 2.89% or 2.39% above base rate.

Calculations are based on a £150,000 repayment mortgage taken out over 25 years.

(See full table on fixed verses base rate tracker at confused.com)

Results

The first year

Total tracker monthly mortgage repayments would come to £8,508. That's more than £1,000 less than the £9,588 repaid by the fixed rate mortgage holder.

The second year

Tracker mortgage customers repay a total of £11,840, while those on the fixed rate deal remain at £9,588.

If interest rates stayed at 5% for a year, a tracker mortgage would face repayments of £13,332 during the 12 months - a whopping £3,744 more than the fixed rate.

The third year

Over a three-year period, the tracker mortgage customer would repay a total of £33,680.

The homeowner, on a fixed rate mortgage, would pay nearly £5,000 less, at £28,764.

Fixed rate vs tracker - the big difference

The fixed rate mortgage customer would have the security of knowing their repayments would remain the same throughout the three years.

The tracker mortgage customer would see their repayments soar by 57% - a considerable amount of extra money needed on a monthly basis.

The final word

Interest rates may stay low for longer than we've assumed here. They could also rise at a slower pace than we've predicted. Under a different scenario, the tracker mortgage customer could come out on top.

Equally, the base rate would have to rise further before repayments on tracker mortgages, with lower margins above the base rate, became more expensive than a best-buy, fixed rate deal.

Whatever timescale a rate rise takes place over, and whatever margin above base rate they're on, if you've got a tracker mortgage, expect significant hikes in your monthly repayments if the base rate goes up to 5% again.

For more information on the different Types of Mortgages available, Have a read of this feature and compare mortgages with http://www.confused.com/mortgages for a great deal.