Tracker mortgages explained

If you’re on a tracker mortgage that follows the Bank of England’s base rate, you might have considered switching to a fixed-rate mortgage as the BoE has forecasted a moderate rise in the base rate.

This guide explains how a change in interest rates could affect tracker mortgage customers and why it’s not always a good idea to switch from a tracker mortgage to a fixed-rate deal.

Here’s what’s included in this tracker mortgage guide:

What is a tracker mortgage?

The majority of tracker mortgages in the UK "follow" the Bank of England’s base rate. If interest rates fall, your lender charges you less for your mortgage repayments. If interest rates rise, your repayments will increase.

Are interest rates for tracker mortgages about to increase?

• Tracker mortgages are charged with an interest rate that tracks the base rate, plus an additional margin added by the lender.
• The base rate decreased back in March 2020 but some economists are now expecting it to rise as early as 2022 to combat inflation.
• If the base rate goes up, interest rates go up too.
• If you have a tracker mortgage and interest rates increase, your monthly mortgage repayments will increase too.

How much could interest rates go up?

While economists predict that rates will rise sooner than forecasted by The Bank of England’s predictions, the central bank’s Monetary Policy Committee (MPC), suggests that only a very gradual interest rate rise is likely to keep inflation close to its medium-term target of 2%.

• The first increase to about 0.3% is likely to come in 2023.
• Rates are then predicted to reach 0.6% in 2024.

Tracker mortgages explained

A tracker mortgage is a type of home loan charged with a rate of interest that usually follows the BoE’s base rate, plus an additional margin set by the lender.

Mortgages are charged with interest because lenders borrow the money from central banks, like the BoE, and therefore, they are themselves charged interest.

For example, if the base rate is 0.1%, a tracker mortgage might be charged with this plus a hypothetical rate of 1%, depending on the lender and your circumstances.

If the base rate changes, as it did twice back in March 2020, the amount of interest you’re charged for a tracker mortgage changes too.

If the base rate goes down, mortgage repayments go down. However, if the base rate increases, as it is predicted to do so, then mortgage repayments increase.

How does a tracker mortgage work?

As a rule, tracker mortgage rates do not exactly match the interest rates they track, but they’re set at a level just above the set rate.

Typically they have introductory periods from 1-5 years which are set with a lower margin. So, you might have an introductory period for one year which charges you interest set at the base rate of 0.1%, plus an additional rate of 1%.

How do introductory periods for tracker mortgages work?

Usually, but not always, the longer the introductory period, the higher the additional margin on top of the base rate. The higher the margin, the more expensive your mortgage repayments.

So, if you secured a tracker mortgage with an introductory period of 2 years, you could expect to see an higher margin on top of the base rate, versus a tracker mortgage with an introductory period of 1 year.

Once that introductory period has ended, you would be transferred to the lender’s standard variable rate (SVR) which is usually higher.

What is an introductory rate ‘collar’?

Tracker mortgages with the lowest rates sometimes have a 'collar'. This ‘collar’ sets a minimum rate so that even if the base rate falls, you might not benefit from lower repayments. However, if the base rate rises, you will still see an increase in your mortgage repayments.

For example, if you were on a tracker mortgage agreement that followed the base rate plus 0.4% but your deal had an introductory rate collar of 0.5%, even if the base rate fell to 0%, you'd still pay at least 0.5% interest.

How do standard variable rates work for tracker mortgages?

A standard variable rate (SVR) is the rate your lender charges you once your introductory rate period has ended. It’s usually more expensive, which is why longer introductory periods can be better and cheaper for some borrowers but that’s not always the case.

If the SVR is higher, keep in mind that while your mortgage repayments will be higher, the amount of capital you’re repaying for your original loan does not go down by more than it did before you paying the higher SVR rate. The amount you pay in interest - only repays interest, not the original sum you borrowed.

Therefore, it could make financial sense to switch your mortgage before your introductory rate ends, to find a cheaper or more suitable deal.

Pros and cons of tracker mortgages

Pros

• When the base rate is low a tracker mortgage can be a good idea because the interest you pay on the mortgage is lower
• Some tracker mortgage agreements do not have an introductory rate collar, so if rates fall further, you could benefit from even lower repayments
• Some tracker mortgage lenders add caps to their agreements so that there’s a maximum level of interest that you can't exceed.
• Many tracker mortgage providers don’t charge early repayment fees whereas fixed-rate mortgages often do. Low fees or no fees, make it easier for you to switch your mortgage in the future.

Cons

• Tracker mortgages are a type of variable-rate mortgages, so the amount you pay back can change at any time with little to no warning.
• The tracker mortgage providers that do include caps to prevent you from paying too much interest are few and far between. These types of deals are sought after and can sometimes be charged with higher rates of interest.
• Without a cap in your tracker mortgage agreement, you could end up paying high amounts of interest suddenly if the base rate were to unexpectedly shoot up.
• While tracker mortgages don’t always come with early repayment charges, some do. This can affect your ability to remortgage or pay off your mortgage before the deal period ends.

A mortgage is secured against your home which may be repossessed if you do not keep up repayments on your mortgage or any other debt secured on it.

What is a lifetime tracker agreement?

Lifetime tracker mortgages have a variable rate for the whole term of the mortgage, rather than having an introductory period with a set margin and then jumping to the lender’s standard variable rate.

That means that the interest rate charged throughout the mortgage can unpredictably fluctuate until the whole of the mortgage is paid off, which doesn’t provide much certainty to you.

If you’re someone who prefers to know exactly how much they’re paying each month for their mortgage, a lifetime tracker mortgage might not be for you.

What are the alternatives to a tracker mortgage?

• Fixed-rate mortgage
• Variable-rate mortgage

What’s the difference between a tracker mortgage and a fixed-rate mortgage?

A fixed-rate mortgage has a rate that is fixed and unaffected by any changes to the base rate, that is until the fixed-rate period ends and the borrower goes onto the lender’s standard variable rate (SVR).

Fixed-rate mortgages usually have a fixed period between 1-5 years but some lenders will consider providing a fixed rate for up to 15 years, under very specific circumstances.

Having a fixed-rate period helps the borrower know exactly how much their mortgage repayments will be, so budgeting is simpler.

If you have a fixed rate and interest rates shoot up, your repayments would remain the same.

The downside of having a fixed-rate mortgage is that if the BoE base rate were to fall, you wouldn’t benefit from a reduction in your mortgage repayments while those on a tracker mortgage might.

What’s the difference between a tracker mortgage and a standard variable mortgage?

If you have a variable mortgage, a mortgage lender can set their variable rate at any time whereas a tracker mortgage follows the base rate but has an added margin.

This margin is set in your agreement and can’t suddenly be changed. This leaves you reliant on the BoE and their rates, so you can monitor changes perhaps more easily and make predictions based on economical factors like a sudden rise in inflation.

A standard variable rate tends to follow the base rate but the lender can change the amount of interest they charge on top of this whenever they like.

How does inflation affect a tracker mortgage?

Inflation represents the rate at which the costs of goods and services increase over time.

When inflation rises, interest rates usually rise too.

A gradual rise in inflation can be a good thing because it shows economical growth, however, when inflation rises too quickly, prices rise for products like cars, clothes, household goods, and food but the rate at which wages grow doesn’t always keep up.

Inflation can be affected by lots of things like price rises in the production line or higher prices for importing goods. For example, The Centre for Economic Policy Research in London reports that UK consumer prices have increased by 2.9% since the referendum.

This represents an £870 per year increase in the cost of living for the average UK household, meaning people have to work 1.4 weeks longer to afford the same goods and services.

What else affects inflation and interest rates in the UK?

Coronavirus is also believed to have affected inflation although it will be years before these predictions can be rigorously tested.

To moderate inflation, the Bank of England can vote to raise interest rates, so if the base rate goes up, interest rates go up too. This makes borrowing more expensive and can decrease demand for goods and services.

What’s better, a tracker mortgage or a fixed-rate mortgage?

Your decision about what type of mortgage agreement to get affects the amount you pay each month and the flexibility you have in the future to remortgage and move without a financial penalty.

A fixed-rate mortgage gives you predictability because your interest rate is set until an agreed date.

During periods where interest rates are expected to rise, some people like to lock in a good rate with a fixed-rate mortgage, to avoid having to face suddenly increased repayments.

If you’re on a tracker mortgage and the base rate increases, your repayments will increase too, and while you may be in a position to still be able to afford that increase, that extra payment doesn’t clear the capital of your loan. You’d just be paying more to borrow.

However, while a fixed-rate mortgage might seem the better option, they often have little flexibility. Your rate won’t change until the fixed period ends and during that period, you won’t benefit from any hypothetical decreases to the base rate.

While the base rate may be projected to increase moderately over the next few years, forecasts can change.

Can a first-time buyer get a tracker mortgage?

Yes, there are lenders in the UK that provide first-time buyers with tracker mortgage agreements, though think carefully before signing a contract that ultimately, affects your finances for the future ahead.

If you’re keen for a tracker mortgage without an early repayment charge and you’re happy to take the risk that the base rate could increase and therefore the amount you would pay for your mortgage repayments would go up too, then a mortgage broker could help you with your search for a good lender.

Your next step would be to speak to a mortgage broker who can listen to what your needs are for a mortgage and take the time to understand your situation. They can check your eligibility and look at your circumstances against lender criteria, to filter out the irrelevant options and present you with the most appropriate ones.

If you like predictability and you don’t have plans to remortgage and move elsewhere shortly, a fixed rate could be a better option for you but ultimately, it’s your unique circumstances and ability to meet lending criteria that will determine this.

Tracker mortgage advice

• Make sure that you check if any ‘collar rates’ apply to your tracker mortgage
• If there is a collar rate in your agreement, ask the lender how low your rates can go and have them calculate how this will affect your payments.
• There are a lot of tracker mortgage providers in the UK and each one will have different eligibility criteria, so even if you get rejected for this type of loan, a mortgage broker with access to a wide range of lenders could find another lender to approve you.
• Never hastily apply for a tracker mortgage without checking how your repayments could be affected by changes to inflation and subsequent rises in interest. Advice from a mortgage broker can help you decide what type of mortgage is best for you and your situation.
• They can present you with different scenarios and work out how much your mortgage repayments could be with different types of agreements i.e, a fixed-rate mortgage.

Speak to a broker about tracker mortgages

No one has a crystal ball to give you a definitive conclusion on what will happen to the base rate and therefore, whether a tracker mortgage is a good idea right now.

Getting advice from someone who understands the different scenarios and factors that could influence your mortgage repayments, can be handy. Using your circumstances for the examples they provide, a mortgage broker can explain the pros and cons of different types of agreements that you could be eligible for.

A mortgage broker also knows that interest rates aren’t the only thing that affects how much your mortgage will be.

Comparison sites for tracker mortgages can give a snapshot of the current rates available but they won’t represent the final cost for you, as they don’t always factor in additional costs like early repayment fees.

Tracker mortgages FAQs

How could a rise in the base rate affect my tracker mortgage?

Tracker mortgage customers pay interest for their loan based on the base rate, plus a margin added by their lender.

While the margin added to the base rate is predictable and set by your lender, the base rate can change unpredictably.

Therefore, if you take out a tracker mortgage, you need to be prepared for monthly repayments to fluctuate frequently.

If you’ve passed your introductory tracker period and you’re paying your lender’s standard variable rate, this can fluctuate too and because there is no set margin, the lender can increase or decrease the SVR by as much as they like.

How often does the base rate change?

The Bank of England’s base rate can technically change up to 8 times a year but this has never happened. The Bank of England has a group called the MPC (Monetary policy Committee) and they meet 8 times each year to discuss and then vote on changes to the base rate.

Can I get a tracker mortgage for a buy-to-let property?

Your ability to meet your chosen lender’s buy-to-let mortgage criteria will determine whether you’ll get approved but mortgage lenders in the UK do provide buy-to-let mortgages on fixed, variable, and tracker deals.

A buy-to-let tracker mortgage has an interest rate that tracks the BoE base rate, so while there is little predictability, repayments for this type of deal can be lower if and when the base rate is low. If you’re a buy-to-let landlord, this can free up some of your money to save or invest elsewhere.

Furthermore, a tracker mortgage usually has little or no early repayment fees, so if you want the freedom to be able to overpay your mortgage or repay early, this type of agreement could make sense.

Tracker mortgages carry risk and this should be taken seriously. The base rate can fluctuate, so if it rapidly increases, your repayments for your BTL mortgage would increase too. Always check if you could afford a hypothetical increase to the base rate.

Can I get a libor tracker mortgage?

Libor is the rate banks charge to lend money to each other and although it changes from day to day, since 2018, it has remained around the 1% mark.

Libor trackers are far less common than mortgages tracking the Bank of England base rate and beyond 2021, they won’t be available at all because Libor is being phased out.