How do Bank of England interest rates affect my mortgage payments?
Following nearly a decade of remaining flat at between 0.25% and 0.5% after the financial crisis, the Bank of England’s base rate was hiked to 0.5% in November 2017 and then 0.75% in August 2018, a reflection of improving economic fortunes.
But while savers may have rejoiced, hoping the raise would see banks offer better interest rates on their savings accounts, many homeowners were left doing worried maths, calculating how much their monthly mortgage payments would be under new rates.
The Bank of England has said that any future hikes of the base rate “are likely to be at a gradual pace and to a limited extent.” But if you have a mortgage or are considering applying for one, you’ll want to know how changing interest rates would impact your housing costs.
But how, when, and indeed if, the Bank of England’s base rate affects your monthly mortgage payments depends on what type of mortgage you have.
Below, we’ll look at what the Bank of England base rate actually is and how and why it’s adjusted and at the common types of mortgages—tracker, variable, and fixed—and how fluctuating interest rates can spell changes on your monthly mortgage payments.
What is the Bank of England base rate?
The base rate is the interest rate the Bank of England charges commercial banks to borrow money. It’s through this mechanism that the Bank of England affects monetary policy. The Bank of England assesses the base rate on the first Thursday of every month with a meeting of the Monetary Policy Committee (MPC). The Bank of England may lower the base rate to encourage higher rates of borrowing and spending by businesses and consumers. Following the financial crisis in 2008, the Bank of England kept its base rate at historic lows to encourage wary businesses and the public to spend and borrow and thus stimulate the sluggish economy.
Conversely, if the Bank of England thinks spending is increasing too quickly and driving inflation beyond its 2% target, it will raise interest rates to discourage spending and encourage saving.
Banks typically pass this rate, and any changes to it, onto consumers, so the base rate affects how much you can earn on your savings and also how expensive it will be to borrow money. And since most people’s largest loan is their mortgage, any changes on the base rate will be most keenly felt on mortgage bills. But how depends on what type of mortgage you have and how long it lasts.
Any change to the Bank of England base rate will be mostly immediately felt by borrowers with tracker mortgages, a type of variable rate mortgage which follows, or floats a set amount above, the base rate. These mortgages will have an interest rate that is represented as the base rate plus a set figure—often 1%, 1.5% or 2%. A change in the base rate will directly and immediately affect this equation. For example, a tracker mortgage that follows the base rate plus 1.5% will have seen its interest rates increase from 2.0% to 2.25% with the August 2018 hike of the base rate to 0.75%.
Standard Variable Rate Mortgages (SVR)
With these mortgages, the interest rate you pay also fluctuates, but the connection between the base rate and your interest rate is less clear cut. The interest rate on your mortgage will be your lender’s Standard Variable Rate, which will often change to reflect adjustments in the base rate but can also be moved at your lender’s discretion for other reasons.
Following the August 2018 hike in the base rate, most lenders elevated their SVR, and thus the interest rate on SVR mortgages, by a corresponding .25%. But a bank’s SVR can also change more often—as frequently as monthly—according to how expensive banks judge it to be to lend money to you and remain profitable.
If you have a discount mortgage, a mortgage that gives you a certain percentage discount on your lender’s SVR, your interest rate will move similarly, with some, but not a direct correspondence, to changes in the base rate.
Fixed Rate Mortgage
With a fixed rate mortgage, your interest rate will be locked in for a certain number of years so changes to the base rate won’t affect you—at least not immediately.
However, your fixed rate mortgage deal will expire, requiring you to remortgage at a certain point. And when you do, the mortgages on the market will all have interest rates that reflect, to some degree, the current Bank of England base rate. Even if you opt for another fixed rate mortgage, the rate banks will allow you to lock in will likely have been affected by changes in the base rate since you last secured a fixed rate.