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Mortgages with a Sting in the Tail
MORTGAGES with the lowest headline rates can often prove to be an expensive choice, borrowers were warned last week.
Lenders such as Northern Rock and Norwich & Peterborough building society are charging extended redemption penalties that tie you into their uncompetitive standard variable rates (SVRs) long after the cheap deal has ended
These deals often come out on top of online comparison websites - despite the penalties - because the sites tend to focus only on the initial rate.
Northern Rock, for example, has a fixed-rate deal at 2.99% until September 31, 2007. But borrowers taking advantage of the low rate face early repayment charges for the next seven years, locking them into paying the bank's SVR, which is currently 6.59%.
Norwich & Peterborough charges 3.98% for two years and then ties borrowers in for five years.
However, you can pay just 4.24% for two years with Alliance & Leicester, with no tie-ins.
Ray Boulger of Charcol, a broker, said: "Lenders like these deals because they allow them to advertise a low rate, although regulatory changes mean they now have to make the downsides clearer.
"The disadvantages may not be so clear on internet comparison services, though, where they often come out on top because they have such low initial rates - despite generally offering poor value."
Some people take out mortgages with extended tie-ins because the low initial rates offer a way to keep repayments down in the first two or three years. However, there are better choices for buyers in this position.
Boulger said: "One alternative would be to take out a flexible deal and borrow an extra 5% of your home's value. You can then use this to make an immediate 5% overpayment, allowing you to underpay later on if you need to."
But while deals offering generous cashback upfront may seem appealing to cash-strapped borrowers, brokers generally advise against them because there is invariably some kind of trade-off.
For example, Northern Rock's cashback mortgage gives borrowers back 9% of their advance. But those customers who sign up to the deal are subject to a tapering redemption penalty starting at 9% in the first year and falling to 4% by year 10. They are therefore tied into borrowing at the bank's standard rate for a decade.
Simon Tyler of Chase De Vere Mortgage Management, another broker, said: "Cashback of 9% sounds like a generous offer, but if you need to raise that kind of money through a mortgage there are far better ways of doing it.
"If you have equity in your home, then you should simply remortgage or raise some capital on your existing loan at the best possible interest rate.
"And even if you do not have the equity, there are personal loans available that have comparable interest rates but that do not force you to stay committed for so long."
By Jessica Bown