The Bank of England has recently increased interest rates to 0.75% in an attempt to tackle rising inflation in the UK which has reached a 30 year high. This means that the base rate is back to its pre-pandemic level, but what does it mean for both savers and borrowers?
Will my mortgage go up?
Only if you have a variable rate mortgage – typically a tracker that follows the base rate, or a loan on a lender’s standard variable rate.
A tracker mortgage for example will directly follow the base rate – the small print of your mortgage will tell you how quickly the rise will be passed on, but next month your payments are likely to go up and the extra cost will fully reflect the base rate rise. On a tracker currently costing 2.25%, the interest rate would rise to 2.5%, adding £18 a month to a £150,000 mortgage arranged over 20 years.
Most borrowers are, however, on fixed-rate mortgages and their repayments will not change.
Interest rates have been so low in recent years that locking in has been attractive, and since 2019, 96% of new mortgages for owner-occupiers have been taken on fixed rates. In total, 74% of outstanding mortgages are fixed. Low interest rates since the steep reduction in rates post banking crisis in 2008 have also allowed people to benefit from being able to pay off their mortgages quicker.
There is however a big gap between the cost of new mortgage deals and mortgage lenders standard variable rates and therefore anyone who is paying a variable rate should consider moving to a fixed rate deal to better protect them from rising rates and to reduce costs. On a £200,000 mortgage arranged over 25 years, moving from an SVR of 4.61% to the average two-year fixed rate of 2.65% would save about £5,082 over two years. It is important to seek independent mortgage advice if you are considering this as this means that you can benefit from the best deals on the market for your circumstances.
The Impact On Savings
Savers have been the losers from years of rate cuts, and when the base rate was cut to an all-time low of 0.1% in 2020 banks and building societies embarked on a new round of reductions. By last summer, many accounts were paying just 0.01%. Account providers are at liberty to do what they want with rates, and so the recent interest rate increase announcement will not necessarily translate to rises across the board for savers.
These low rates of returns on savings accounts combined with rising inflation puts savers at a greater risk of their money losing value in real terms.
In other words the money they hold in their account today will have less purchasing power in future as they will need to spend more money to purchase the same items due to the interest they are earning not keeping up with inflation.
If appropriate and some of these savings are not needed in the short term, then one solution is to move money away from cash and into other assets such as a diversified investment portfolio which contains assets such as shares and bonds. This is something that you should always seek professional advice on from a financial adviser as this type of investment means taking an element a risk with your capital in order to potentially achieve a higher return that has the chance to keep up with inflation over the long term.
Another key thing to think about each year and particularly at this time of year as we approach the end of the tax year is to make sure that you use your £20,000 annual ISA allowance, whether this is invested in a Cash ISA or in a Stocks and Share’s ISA.
This can help to soften the impact of inflation by allowing all interest or capital growth to remain tax free if help within the ISA wrapper. Basic rate taxpayers can earn £1,000 of interest per year before tax is due but higher rate taxpayers can only earn £500 per year before tax is due so therefore rising interest rates will start to have a greater impact on this allowance.
On a Stock’s and Shares ISA, any interest, dividends or capital gains are sheltered from tax. Another alternative is to consider premium bonds provided by National Savings which pay ‘prizes’ rather than interest but the annual prize rate is 1% a year currently and this is tax free on up to £50,000 of premium bonds. This rate of return is higher than most easy access savings accounts on the market today.
Investments carry risk. Stocks and Shares do not give the same capital security as deposit accounts. The value of your investment (and any income from them) can go down as well as up and you may not get back the full amount you invest. Investments should be considered over the longer term and should fit in with your overall attitude to risk and financial circumstances.
Your home maybe repossessed if you do not keep up repayments on your mortgage.