Everywhere you look in the news at the moment, the topic of interest rates is present in full flow. Whether it’s the latest statement from Bank of England governor Mark Carney, or an emphatic announcement made by one of the country’s leading economists about the consequences of a rise, the issue of interest rates is inevitably highlighted across all news forums on a daily basis.
But why would a rise in interest rates affect you as an everyday consumer and what impact will it have on your personal financial situation? Below is everything that you need to know about the trajectory of interest rates as well the likely consequences it would have on you as both a mortgage payer and saver.
Interest rates will rise sooner rather than later
When the Bank of England first cut the base interest rate in the UK to a historic low of 0.5%, they disclosed that they would not consider raising it until that time that the unemployment rate in the country fell below 7%. Today it stands at 7.1%, and although the Bank has consistently reiterated that they have no immediate plans to implement an increase, the reality is that they will rise sooner rather than later. The question is the timeframe in which this will occur, though it now seems more and more likely that it will not happen in 2016 as first thought, but instead at some point in the third or fourth quarter of next year. The bank has previously identified their intention to improve the growth in worker’s wages across the UK before instigating a rise, so expect some changes to employee payment structures over the course of this year.
However, any sharp return to pre-recession interest rates will almost certainly not happen, and all indications as of yet have suggested that rates will rise relatively slowly over the course of a few years before. This is positive news, because you will be able to adapt your finances to more burdensome expenditure demands over an extended period of time. However, it is also worth being aware of how exactly a rates rise will affect your monthly expenditure, because the likelihood is that it will happen in the second half of next year and you will have to be prepared for when it does.
Higher mortgage payments are on the horizon
When the base interest rate does raise, so will the rates attached to mortgages as well. Though this might not happen instantly, it is inevitable though it is worth nothing that the Bank will almost certainly raise rates in a slow and steady manner to help people adapt to the new financial demands on their income. Nevertheless, you should brace yourself for larger monthly repayments in the future and should plan your finances ahead so you remain in a stable and secure situation over the next few years.
Higher payments will not instantly apply to those of you who are currently on a fixed rate mortgage deal, as the amount you pay will remain the same until that time that your deal expires. However, when it does come to an end, you will have to re-mortgage at the new higher rates being offered on the market, so you will eventually have to make higher payments each month. Those of you with standard variable mortgages at the moment will instantly see the amount you pay jump up, because these are defined in accordance to the base rate directly, so it may be worth fixing now to a long term deal to give you time to manage your finances accordingly. It is worth remembering though that being a variable deal makes it substantially easier for you to switch provider when you want to, so you will always be able to choose a mortgage with the most competitive current rate if you want to.
If you are someone whose monthly mortgage contributions take the form of interest payments only, then you will probably face the steepest rise in your monthly expenditure. For example, if you had a £500,000 mortgage for an initial ten year period and currently pay 2% interest, then your monthly payments would be £833. However, a rise by just 1% on the interest you pay would see you pay a substantially higher £1250 each month, which equates to an extra £4000 year you will have to part with on your mortgage. Moreover, this is for a relatively long term deal, and those on shorter loan agreements will have to pay an even higher amount each month compared to now. So if you are someone who does make interest only mortgage payments, then it is either worth fixing now or starting to save up because the reality is that even a small rise on the rate you pay will have a monumental impact on your expenditure over the course of the year.
Those of you who are landlords should also brace yourself for a change in the complexion of your mortgage payments, because buy-to-let loans, that are typically more expensive anyway than normal ones, will have higher monthly payments as well. This is important, because you may find that you will have to push the rent up in order to afford the new higher payments, especially considering that the majority of these types of mortgages take the form of interest only monthly repayments.
If landlords push their rent up, then those of you who currently rent property will also have to prepare yourself for higher monthly rental costs. Ultimately, as a renter there is nothing you can do about this though landlords should take the initiative now and re-mortgage to a fixed rate deal for as long as possible in order to maximise the profit they receive on their investment in the future.
The impact that a rates rise will have on the property market as a whole has been heavily debated, with two trajectory’s given as plausible outcomes. The first would be that a housing bubble takes place, in which people will be priced out the most expensive areas of the country as property prices would remain high but mortgages would be extremely expensive and difficult to afford. Certain people will have to sell their home due to substantially higher mortgage payments than when they first signed up for their deal, and the UK will generally see a rise in secured debt levels. The other likely outcome is that a rise in rates will cool the huge wave of demand that the housing market is experiencing at the moment and by extension will naturally bring down the cost of property across the country.
Considering the history of interest rate rises, the latter is probably more likely, so whilst you will have to brace yourself for higher mortgage payments, you should also consider the possibility that house prices will fall as well, lowering the amount you will have to borrow as well. Again, this will probably happen from around 2017 onwards, though it the desired affect that many prospective property owners will want considering the rise in the expense of mortgages in the near future.
Good news for savers
With every cloud, there is a silver lining and this can most certainly be applied to Britain’s long suffering savers who have been treated to a series of torrid, low interest offerings from banks since interest rates were chopped. The base rate of 0.5% has meant that rates on all savings accounts and annuities for pensioners have been particularly low, and a rise in interest rates will almost certainly provoke banks into releasing better offers in the near future. The reality is that with funding available for banks to borrow at rates of just 0.75%, it has not been necessary for them to encourage consumer deposits through attractive saving offerings.
However, a rates rise will make it far more expensive for them to acquire the finance they need and this should see them push the rates up on the savings account they provide. Furthermore, with banks losing a substantial level of financial backing due to the Bank of England’s refocusing of their Funding for Lending scheme to small business start ups, savers could see a number of improved offerings surfacing on the market as early as this year.
There are some important things for you to remember though, namely that they won’t just soar overnight, and will probably take the same trajectory as mortgage rates and creep up slowly. It is worth avoiding any fixed rate deals at the moment, because better deals are on the horizon and will probably have highly competitive rates attached to them for an initial period at least. However, the new deals will likely take the shape of extremely attractive rates for a limited term, then a lower and less desirable rate afterwards, so be flexible and always compare the latest deals online to ensure you get maximum return on your investment.
However, an improvement to saving account offerings is an excellent way to combat the rise in mortgage payments, and you should try and save away as much as possible when the new deals arise, so that you are financially prepared in the future when your monthly house payments rise.
What you can do
The first step you can take to ensure that you are financially prepared for when interest rates rise is to go online and access a mortgage calculator. You can then use this to gauge the difference in your monthly mortgage repayments after interest rates rise, and can test your current finances against them so that you know what to be prepared for. If you find that you it may be difficult to sustain payments on your current income, then it might be worth looking for the longest fixed rate deal right now so that you have at least a few years to improve your situation.
It will also be worth consistently monitoring the savings market over the next two years, to see if there are any offerings that catch your eye. With higher rates, you will get a better return on what you save, which will benefit you immeasurably later on down the line when your fixed rate mortgage deal expires and you have to pay more on your contributions.