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There are many kinds of mortgage deal available to borrowers in the UK today, from the traditional standard variable rate loan, to flexible and offset mortgages, tracker deals, capped and collared rates and of course discounted and fixed rates. In recent years there has been an increasing popularity in the latter deals, namely discounted and fixed rate mortgages. Before we discuss why these products are so popular, let’s look firstly at what is meant by a discounted rate or a fixed rate.

A discounted rate mortgage is one where the variable interest rate charged by the lender is subjected to a discount for an initial period of the loan. As the interest rate changes, the monthly payments on this type of loan will also change accordingly. The discounted term is usually for one or two years, but it is possible to obtain a discount for longer periods. Often these are stepped discount products where the discount available reduces through the initial period. For example, an 18 month discounted rate mortgage may offer 3% discount in the first six months, followed by 2% discount for the next six months and 1% discount for the final six months. Normally, the shorter the term of the discount is, the larger the reduction will be, although most deals tend to work out at about the same monetary value over time, for example, a discount of 2% for one year will provide the same saving as a 1% discount for two years. Once the discounted rate ends, the mortgage reverts to the lender’s standard variable rate.

With a fixed rate mortgage, the interest rate charged by the lender is fixed at the outset for an initial period of the loan. As with discounted rates, this initial term is usually for two or three years, although it is possible to obtain longer fixed rate deals, sometimes up to ten years. The main benefit of a fixed rate loan is that the monthly repayments will remain constant throughout the fixed period, regardless of fluctuations in the base interest rate. Of course, this can be either an advantage or disadvantage, depending on how interest rates change. If rates were to rise during the fixed period, then the borrower will be better off than they would have been on a variable rate mortgage, however if rates were to reduce, then they would be paying above the odds for the same loan. With most fixed and discounted mortgage deals the borrower is tied in with the lender for the duration of the initial period and therefore would not be able to get out of the mortgage in the above scenario without incurring a large redemption penalty. Once the fixed rate period of the loan ends, the interest rate reverts to the lender’s standard variable rate.

There are several good reasons to take out a discounted or fixed rate mortgage. If a borrower were to buy a house in need of refurbishment, for example, a reduction on their mortgage repayments could be of great benefit, allowing them extra available money to spend on the property in the early years. Also, many individuals enjoy the security of knowing that their repayments will not increase for a time. However, fixed and discounted rate mortgages are often taken out for the wrong reasons. Many individuals when buying, or re-mortgaging their homes, over commit themselves with a large mortgage and are only able to afford the monthly payments if they choose a low fixed rate, or discounted mortgage for an initial period, giving little, or no thought as to how they will manage to meet the monthly repayments once their current deal ends. This has particularly been the case in recent years as house prices have increased disproportionately to people’s salaries and wages. This coupled with the fact that mortgage lenders have taken a relaxed attitude to lending criteria, allowing high income multiples and self certification, has led to many individuals committed to mortgages of five or even six times their salaries, which they would be unable to afford without obtaining an unrealistically cheap rate.

The attitude taken by many borrowers in the past has been to re-mortgage their homes every two or three years, once the current deal ends and take out another short term offer. This philosophy has been backed up by many mortgage advisers and brokers, although their motives are different from those of the borrower as they will receive a commission payment every time they re-mortgage their clients. It is a popular misconception to believe that it is best to re-mortgage your home every few years in order to chase the cheapest deals. Usually the cost of a re-mortgage, i.e. valuation fees, administration or booking fees, possible redemption penalties on the old mortgage, solicitors fees etc., cancel out any benefit that had been received from the previous deal. Also, as the overall mortgage term reduces and the re-mortgages are taken over shorter terms, this has the effect of increasing the repayments each month and the temptation is often to extend the original term of the loan in order to reduce the cost to an affordable amount. Clearly, this is an expensive exercise and the borrower is not moving forward with their loan at all. The other assumption which everyone makes is that there will always be cheap deals available and that they will be able to re-mortgage at the end of their fixed or discounted period. This leads us on to the problem which is now facing many borrowers and the time bomb which has been ticking for the past couple of years and seems to be about to explode!

The impact of the global credit crunch, which we have heard so much about in the press recently, is starting to take its toll on mortgage lenders and property prices alike. Lenders are finding it increasingly difficult to borrow funds from Banks, building societies and other financial institutions in the current economic climate, as well as many suffering losses from their exposure to the sub prime lending market. This has had the effect of forcing a large number of lenders to restrict their product range, or in some cases, withdrawing from new lending altogether. At the same time, house prices have started to fall, with predictions that they are likely to reduce further over the next twelve months.

All this creates a huge problem for those individuals who took out, or were sold, a fixed or discounted rate mortgage two or three years ago which is now coming to the end of the initial term. Many of the deals which were available two years ago are no longer there, particularly those offering high income multiples and high loan to value ratios. This is a double whammy for the borrower as firstly, they may not be able to borrow the amount of loan required based on their income and secondly, if the value of their home has reduced, they may not have enough equity within the property to achieve the loan to value required by the lender. Many borrowers in this situation may be faced with the prospect of not being able to re-mortgage at all, particularly if they are unfortunate enough to have a less than perfect credit rating. This could leave the borrower facing a huge increase in their mortgage rate, in some cases up to two or three percent. In monetary terms, an increase of 3% on an interest only mortgage of £150,000 would mean an increase in the monthly repayment of £375. For many individuals in this situation, such an increase would be totally unaffordable, yet thousands of borrowers are faced with this prospect during the course of the next twelve months. There is little wonder then that a large number of financial experts are predicting a record number of repossessions and bankruptcies over the course of the year.

So what can you do to avoid the bailiffs if you are one of the many thousands of people whose fixed or discounted rate mortgage deal finishes this year? Despite everything we have discussed so far in this article, there are still plenty of mortgage providers out there in the market place offering good deals, although these may not be as attractive as your current interest rate and could vary greatly depending on your personal circumstances and credit rating, but a re-mortgage is still a viable option in many cases and should be seriously considered. Alternatively, it is also worth approaching your existing lender to see what they can offer. Many mortgage lenders will offer a new deal to existing customers whose current rate has expired in order to retain their business. If you find yourself in financial difficulty and struggling to keep up with your repayments and are unable to obtain a re-mortgage, then you should once again contact your existing lender before arrears start to accumulate. Under the mortgage code of conduct, they are required to take a sympathetic view of your situation and may be able to offer advice and assistance. This could include extending the term of the loan, switching to an interest only payment, or reducing the interest rate charged for a period of time. There are still those individuals who over committed themselves in the past and are simply living beyond their means. No one likes to admit to this, but if this is the case then the only option may be to sell the property and downsize to something more affordable.

A mortgage is a long term commitment, rather than a string of short term deals and as such you should ensure before you buy that it is realistically affordable, not only in the early years, but also once the initial fixed or discounted rate period has finished, because as we are now seeing, there may not be the opportunity to re-mortgage in the future. As with any financial commitment, it is worth seeking independent financial advice from a qualified expert in the field, who will be able to advise you on your affordability and the long term costs involved with a mortgage.