The domino effect: if the cost of living is linked to interest rates, what does that mean for mortgages?



By Sarah Thompson, managing director, mortgage scout at LRG

As far as the UK government is concerned, the threat from COVID is over. In its wake, a new battle, the cost-of-living crisis, has hit headlines and become centre of many debates. The rise to the cost of living has many different causes but importantly for our industry, its knock-on effect for interest rates has a direct impact on mortgages. With interest rates set to soar over the next couple of years, how can homeowners be best prepared for what is to come? And what does it mean for new buyers looking to get a foot on the property ladder?

Interest rate fears in the mortgage market

Brexit, a hefty COVID bill, inflation and the rising cost of energy, are just a few of the factors causing the price of everything to go up. So it is understandable that there’s a marked level of fear among homeowners at a rise to interest rates. Is it justified? In my opinion, no.

Firstly, interest rates have been at historic lows for the past decade so many newer homeowners won’t have any experience of higher rates. Homeowners who saw interest rates of almost 15% at the end of the 1980s are likely to be less concerned by the raise of 3.5% predicted in the coming years. Secondly, their rock-bottom lows always meant that the only direction for them to travel was up, and this would have happened regardless of global factors. Lastly, and most importantly, lenders stress test interest rate factors in great detail before approving mortgages – eager to avoid the housing crash that befell many back in 2008.

To reiterate, the fear around a rise to mortgages is understandable, as it will sit alongside a rise to the cost of food, fuel, travel, and just about anything else. Subsequently, we will see a period of adjustment where homeowners will need to look carefully at their spending and factor in how much a rise in their mortgage will affect them. Of course, it is important to note that these worries are also dependant on what type of mortgage you have.

Variable vs fixed rate mortgages

If you have a fixed rate mortgage, there’s even less reason to be concerned right now as the rise in interest rates won’t affect how much you’ll repay. This will only become a factor when you remortgage or look for a new one as it may affect how much you can borrow.

There’s understandably more concern for those on variable rate mortgages who will see a rise in line with interest rates, however these scenarios will have been stress tested by brokers who would lend based on how an interest rate rise will affect someone’s ability to repay.

Let’s not forget that those on a variable rate have enjoyed low interest levels for some time and will know the pros and cons of their choice, particularly as a big benefit is there being no early redemption fees if you want to get out of your mortgage early.

What about first-time buyers?

Those re-mortgaging or looking for new mortgages might not be able to borrow as much as they could previously – this will be the same for first-time buyers looking to secure their first home. It could be made more difficult by lenders grappling with affordability calculators in light of interest rate rises.

What does a borrower’s affordability look like now? Do income multiples need to be increased and do they need to be more rigorous in their assessment and stress testing? The interest rate rise has lenders in a place of uncertainty right alongside borrowers.

However, it isn’t all doom and gloom for first-time buyers of course, findings from the latest English Housing Survey showed that 70% of first-time buyers are doing so with their own savings, in comparison to the 30% that get help from their parents. The study also showed that, despite price rises, the amount of people getting a mortgage from gifts or loans from family and friends has dropped from 39% to 23%.

What should homeowners do about their mortgage?

As hard as it is, homeowners shouldn’t worry about an interest rate that is out of their control. It will rise this year and next, but it isn’t and won’t come close to the historic rises of decades ago. A reassessment of outgoings, particularly with the cost of everything else rising will be a good safety measure in the face of such insecurity.

I’d also advise talking about your mortgage concerns instead of worrying about it, with your mortgage broker or financial advisor –  no one wants to see the mass foreclosures of the past so help is there for those that need it.

Leave a Reply