Tracker mortgage interest rates can go up or down which means they can be particularly attractive when the base rate is low. This guide explains how tracker mortgages work, the pros and cons of choosing one, and how to decide whether they are the right option for you.
A tracker mortgage is a type of variable rate mortgage that follows, or tracks, another rate. Usually this is the Bank of England base rate.
The Bank of England base rate sets the level of interest other banks charge borrowers and it currently sits at 0.1%.
The amount of interest you pay on a tracker mortgage is often the base rate plus or minus a certain percentage. For example:
If your tracker mortgage is set as the base rate plus 1%, you would currently pay 1.1%
If your tracker mortgage is set at the base rate plus 1.5%, you would currently pay 1.6%
Should the base rate rise to say, 1%, your tracker mortgage would follow, rising to 2% in the first example, and 2.5% in the second example.
Similarly, if the base rate were to fall, the rate you would pay on your mortgage would also come down. Be warned though – some lenders set a level below which the rate cannot fall, known as a collar, which means your mortgage rate may not fall as much as you might expect it to. We explain more about collars later on.
Because tracker mortgages can go up and down in line with the Bank of England base rate, your monthly repayments can also change.
When you make your monthly mortgage payment, part of the amount paid goes towards the interest charged by your lender and the rest goes towards paying back the money you have borrowed.
Should the base rate rise, and your monthly payment increase, the extra money you pay will go towards paying the increased interest charge, rather than towards your mortgage debt.
The Bank of England makes its decision on whether there will be any changes to the base rate on the first Thursday of every month. Decisions are based on the strength of the economy and the rate of borrowing nationwide.
Some types of tracker mortgage follow the London Inter-Bank Offered Rate (Libor) instead of the Bank of England base rate. Libor is the rate at which lenders loan money to each other, and it changes slightly each day.
Libor trackers are more commonly used for buy-to-let or subprime mortgages, but even so, you won’t come across them too often. Libor is also due to be phased out by 2021.
You should also watch out for lenders offering mortgage products that track a rate controlled by the lender. Always check the small print carefully to avoid getting caught out.
There are 2 other main types of variable rate mortgage, as well as tracker mortgages. These are standard variable rate mortgages (SVRs) and discount-rate mortgages.
All lenders offer an SVR and will usually move you onto this rate once your existing mortgage deal ends. So if, for example, your tracker mortgage lasts for 2 years, you’ll be moved on to your lender’s SVR after this point.
The SVR does not have to follow changes in the Bank of England base rate. So if the base rate rose by 1%, your lender could choose to:
Not move its SVR at all
Increase its SVR by less than 1%
Increase it by exactly 1%
Increase it by more than 1%
It could even choose to lower its SVR, but this is unlikely in this situation.
This means that SVRs are often the most expensive mortgage rates available so if you are moved on to one, it is usually worth moving off it and remortgaging as soon as you can.
The exceptions to this might be if you do not have much left to pay on your mortgage, in which case staying put might be cheaper than remortgaging, or if you are in the process of moving house and your moving date does not line up with the end date of your current mortgage.
A discount rate mortgage offers a discount on the SVR for a certain length of time – most commonly this is 2 or 3 years, but it can be for your whole mortgage.
The discount on the SVR will not change, but keep in mind that your repayments could still go up or down if the lender’s SVR does.
So if, for example, your lender’s SVR is 4.5% and the discount is 2%, you would pay an interest rate of 2.5%. But if the SVR rose to 5%, your mortgage interest rate would also go up to 3%.
The majority of tracker mortgage deals last for 2 years, but you can also choose 3-year, 5-year or 10-year deals. After this time, you will be moved on to your lender’s SVR.
Some tracker mortgages, known as lifetime trackers, last for the full term of the mortgage and won’t revert to your lender’s SVR.
Choosing a longer-term mortgage means you won’t have to remortgage as often, but you will usually find interest rates are higher compared to shorter-term mortgages.
Also keep in mind that if you want to get out of your deal early, there may be an early repayment charge to pay, although some lifetime mortgages do not charge these fees or only do so for a limited time.
Some tracker mortgages have a ‘collar’ or ‘floor’ which means that your interest rate will not drop below a certain level, even if the base rate falls dramatically.
Let’s say you are paying 0.5% above base rate on your tracker mortgage, and your mortgage had a collar of 0.8%, even if the base rate fell to 0%, you would still pay 0.8% interest on your mortgage.
Not all tracker mortgages have collars, but it’s important to check before you agree to a mortgage deal.
A handful of tracker mortgages also have what is known as a ‘cap’. This is the maximum level that your mortgage rate will rise to, even if the base rate goes above this. Caps usually last for 2 or 5 years and you will often find that initial interest rates are higher due to the security the cap offers.
If you want to move home, you may be able to take your mortgage with you – but only if it is portable. A lot of mortgages are portable, but you’ll need to check your mortgage details to confirm this.
Bear in mind you will still need to pay valuation, conveyancing and home survey fees when you move, which can be expensive, but you won’t have to pay a hefty early repayment charge and porting your mortgage can still be cheaper than remortgaging.
Before deciding whether a tracker mortgage is right for you, it’s important to make sure you understand the pros and cons:
Tracker mortgages are cheapest when the base rate is low, which it has been since 2009
Your interest payments could fall if the base rate drops further
Some tracker mortgages do not have early repayment charges if you want to get out of your deal early
Arrangement fees for tracker mortgages can be cheaper than on fixed rate mortgages
Some tracker mortgages allow you to ‘switch and fix’ which means that should interest rates rise, you can move to a fixed rate mortgage with the same lender without paying an early repayment charge
If the base rate goes up, so will your monthly repayments which can make it harder to budget
If your tracker mortgage has a collar, you won’t be able to benefit if the base rate falls below a certain level
If your tracker mortgage does not have a cap and the base rate jumps significantly, there will be no limit on how much you could pay in interest
Early repayment charges can be expensive (often hundreds or thousands of pounds) if you need to get out of your deal early
Ultimately whether or not a tracker mortgage is right for you will depend on whether you would be able to afford your monthly repayments if interest rates rose.
The base rate has remained below 1% for more than 10 years and it’s unlikely it will rise significantly any time soon – but if it does, you need to ensure you would be comfortable paying higher payments. Use a mortgage repayment calculator to help you work this out.
Be aware that when you apply for a mortgage, the lender will want to see around 6 months’ worth of bank statements to assess your affordability. The lender will also ‘stress-test’ your finances to check whether you would still be able to keep up with your repayments if interest rates increased.
If you are unable to afford higher repayments, or you would prefer knowing exactly how much you need to budget for each month, a fixed rate mortgage may be more suitable.
Fixed rate mortgages charge a fixed level of interest for a period of 2, 3, 5 or 10 years which means your monthly repayments stay the same during that time. After that point, your rate will revert to your lender’s SVR unless you remortgage.
Note however, that tracker mortgages tend to offer more flexibility than fixed rate mortgages. Some trackers won’t charge you an early repayment charge if you pay off your mortgage early – for example, by overpaying on your mortgage or switching to a cheaper deal. This could make tracker mortgages more appealing if you plan to move home in a few years.
To find the best tracker mortgage for you, you’ll need to look for the one with the lowest interest rate and the lowest set-up fee.
Always ensure you compare the total cost of the mortgage as you may find that a mortgage with a higher interest rate and low fee works out cheaper than a mortgage with the lowest interest rate but high fee.
You can compare a range of discount and tracker mortgages with our mortgage comparison tool. To help you choose the right mortgage, it can also be worth speaking to a mortgage broker who will be able to consider your financial situation and assess your affordability before advising you on the best deals.