How Are Mortgage Rates Decided? What Homebuyers Need to Know

The Bank of England’s interest rate announcements always make national news and are closely monitored by financial institutions and housebuilders. 

But how do the bank’s decisions impact average homebuyers? 

Here’s a quick explainer. 

The base rate 

The Bank of England’s (BoE) monetary policy committee sets the base rate (the UK’s core interest rate) eight times a year. 

The committee makes its decisions carefully because any dramatic change could have serious implications for the economy. 

It aims to get inflation to 2% (and hold it there). If prices are growing too quickly, the BoE will raise rates. If the economy is sluggish, the BoE might cut rates to encourage spending. 

Currently, the base rate is 3.75%. This is the interest rate the BoE pays banks and building societies that hold money with it. 

The base rate is influential because it sets the tone for the interest rates banks and building societies charge customers for loans and pay on savings accounts. 

However, the mortgage interest rates offered by financial institutions don’t exactly mirror the base rate. 

Lenders are also heavily influenced by many factors, including: 

SWAP rate 

This is the rate that banks charge when they lend money to each other on a fixed term. For example, at the time of writing, the base rate was 3.75%, the two-year SWAP rate 4.5% and the ten-year SWAP rate 4.8%. 

Borrower’s background 

Lenders also consider an applicant’s credit score, the size of their deposit and the type of property that they wish to invest in. 

What homebuyers need to look for 

The critical thing if you’re trying to get a feel for the market is to observe the direction of travel over time.  

What’s happening with the base rate right now? 

The base rate has been held at 3.75% since February, a sign of stability.  

The BoE will meet on September 17 to review the rate. Many predict the base rate will be held again, unless the situation in the Straits of Hormuz escalates. 

True cost of a mortgage 

Obviously, the going interest rate impacts the cost of a mortgage. 

But when you’re looking for a deal, you also need to consider the length of the loan. Your monthly repayments will be less if the loan is spread out over a longer period, but you’ll pay more overall. 

Then there’s what is sometimes called the ‘Ryanair factor’. This is when a headline deal appears to be great value - at first glance. But the deeper you delve, the more fees emerge (such as arrangement fees and booking fees). The best deal doesn’t always mean the lowest headline rate. 

Always seek professional advice from a reputable broker before you commit to a mortgage. 

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