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What might the Bank of England Base Rate changes mean for you?

In the last three months, we’ve seen the Bank of England Base Rate increase to it’s current level of 0.75%, but what could this mean to you? To answer this question, you first need to understand what the Bank of England Base Rate is & why it matters to you as a consumer.

So what is the base rate and why does this matter?

To best understand what the base rate is and the implications of it changing, it’s important to have some understanding of how your lender gets the funds for the mortgages they provide - it’s not just by counting the pennies in the bank vault & seeing what mortgages they can afford to fund. Lenders (banks and building societies) borrow amounts of money from the money markets and then they lend out this money in the form of mortgages, among other products, having allowed for a ‘profit margin’.

The base rate, which is set by the Bank of England’s Monetary Policy Committee, is the interest rate that Commercial Banks and Financial Institutions pay when they borrow money from the Bank of England. In turn, these Commercial Banks and Financial Institutions lend money to companies, like High Street banks, offering mortgages to the public. High Street Banks and Building Societies pool these borrowed funds with deposit monies they hold from customers and invest those monies to generate a profit for themselves. One such way of making a profit is to lend those funds to you and I as a mortgage. It is a supply chain starting with what can be millions of pounds being loaned at Base Rate to a Commercial Bank, who break that down into smaller portions and offer it with a small mark up on base rate to High Street banks. The risk to them is relatively small when dealing with national banks and so they don’t need to make a large profit on the interest rate when dealing in millions of pounds to earn a good profit for their own organisation. Next, the local banks add their margin and lend to you - the risk is potentially larger and so this is factored in, along with their own operating costs and profit margin, when offering a mortgage at 'Base Rate plus X%, with X being their mark up. Money is effectively moving down a supply chain, in a manner not totally dissimilar to the process what you see with supermarkets, although of course they deal with food items and not money. That said, a few of the High Street chains have ventured into selling money too in the past, with Tesco Bank, M&S Bank to name a couple.

Having grasped how money is bought and sold, you can perhaps see that if the Bank of England rate goes up, it has a knock on effect down the chain, with the increased cost of borrowing at the top eventually reaching the public through their own mortgage costs, or vice versa. Of course, this is a simplification of what goes on in reality as other factors come into play such as how long each loan is for and at any given time it’s likely all participants above you in that chain have multiple loans running concurrently. Also, is money being offered on a fixed basis at any point, by anyone in that chain. If you offer money on a fixed basis, an institution can see how much profit you’ll make if nothing changes. However, if interest rates you’re paying rise it can diminish your profit margin, or increase it if rates fall. They too also therefore have the dilemma to consider of borrowing at a fixed or variable rate!

This base rate is the main driver of rates on mortgages and savings products in the UK as it underpins what everyone does, as hopefully the above explains. Changes in the base rate are usually likely to impact the cost of mortgages and return on savings. Generally, a higher base rate means banks and building societies are likely to increase the costs of mortgages, whilst savers can expect a higher rate of interest on their savings too. However, this isn’t always necessarily the case.

Why is the base rate increasing?

The Bank of England are like a moderator and act in relation to factors to try and smooth out any peaks or troughs - the base rate is their mechanism to do this and is increasing in response to rising inflation. The Consumer Price Index (a measure of costs of goods and services) hit 5.5% in February 2022, which was well above the Bank of England target. By increasing the cost of borrowing, the Bank of England hope to halt or reduce rising inflation.

What does this mean for my existing mortgage?

Here in the UK, four out of five mortgages are currently fixed rates. This means that many borrowers will not see an immediate increase in the cost of their mortgage.

However, for borrowers on a variable rate mortgage of some kind, including ‘Standard Variable Rate’ mortgages, rates are likely to rise, though when and by how much depends on the type of variable rate mortgage you have.

For those on a tracker mortgage, which directly follow the Bank of England base rate, your rate will likely have increased by this point and it will be by exactly the same amount as the Bank of England change. We would expect your lender to have been in touch with confirmation of this.

For those on a Discounted Variable Rate, or Standard Variable Rate mortgage, your lender may decide to pass all, some or none of the increase in rates on to you. They could also choose to increase it by more than any Bank of England increase but they should write to you informing you of any changes before your payments increase.

What does it mean for my mortgage offer?

If you’re in the process of remortgaging or purchasing a property, and already have your mortgage offer, you will most likely not see a change if you’ve been offered a fixed rate, although you have to remember that if your offer relates to any form of ‘variable’ scheme it could cost more. Your offer, for example, might have said it’s based upon the Bank of England rate plus 1.5%. The 1.5% is likely to remain but if the Offer was issued when the Bank of England rate was 0.5%, giving a ‘pay rate’ of 2.0%, it’ll now be 0.75% plus 1.5%, making a 2.25% pay rate. A Lender may ‘reissue’ the mortgage offer, outlining the effect of such changes, and we have seen this happen with some but not all lenders - it is simply them doing their due diligence to ensure that you have all of the ‘facts’ in front of you before taking up a mortgage with them. Until funds are drawn down after a mortgage offer, neither you nor the Lender are legally committed to the deal, although it’s highly unlikely a Lender would retract an offer without plenty of notice, although this did happen after the ‘crash’ in 2008.

What does it mean for mortgage rates?

For the 80% of UK borrowers on a fixed rate, this rate change will not yet directly impact your monthly payment. For those approaching the end of their existing mortgage deal, those looking to purchase a property or those already on a Standard Variable Rate, it is likely that rates will increase. This increase has been well forecast, with lenders making changes to their available mortgage deals over the past few weeks.

Despite the recent increase, the base rate is now back at the pre-pandemic level of 0.75%. Although the rise could be seen as a concern, it’s important to look at the base rate’s history to gain perspective. Since the financial difficulties in 2008, the base rate has been below 2% and also the lowest that it has been in recorded history - the base rate, under various names, has been logged since 1694. Those who have been in this industry for a while, like our compliance manager Mark, have been saying for years “interest rates have got to go up, they can’t stay this low for ever”. It will be interesting to see how the mortgage interest rates move over the coming weeks and, as ever, if you have any questions regarding your mortgage, please do get in touch.

What should I do?

In this case, the best course of action is to seek advice. Your mortgage adviser can help you with understanding how the increase in base rate might impact you, explore your options for remortgaging or switching rates. Although we cannot predict what will happen with mortgage rates, we are able to get an overview of the current mortgage market available to you.

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