Why Britons can't have 40-year fixed rate mortgages

By  Nicole Blackmore

In many parts of the world, house buyers can rest assured that their mortgage rates won’t change for decades. Now British lenders are coming under renewed pressure to introduce deals that fix rates for 25 years. This would provide certainty around future repayments and may even help make the property market more stable. 

Interest rates are expected to rise towards the end of this year or in early 2015. However, some experts are predicting earlier rises after unemployment data published this week showed unemployment fell to 7.1pc. This is just 0.1 of a percentage point above the level where the Bank of England said it would begin considering raising interest rates, although the Bank has dropped heavy hints that a rise is not imminent. 

There are fears that when rates do go up, many borrowers who have short-term fixes or variable rate mortgages could struggle to afford the higher repayments. 

Earlier this month the Bank of England said home owners faced a “real risk of exposure to rising interest rates” in the coming years, which could be removed by “locking in” mortgage rates. 

Richard Sharp, an external member of the Bank’s Financial Policy Committee, said: “Certainly, the structure of the UK would have lower risk associated with the housing market if more mortgages were fixed, and fixed for longer.” 

While long-term fixed rate mortgages are common in other countries, they have never been popular in Britain. 

Where long-term fixes thrive  

Longer mortgage deals are common in the United States, Denmark and France, where borrowers can lock in for up to 40 years. 

In the US, the vast majority of mortgages are fixed for 15 or 30 years. Lenders do not levy early repayment charges so borrowers don’t need to worry about the cost of paying off their mortgage early if they move home or want to change lender. This means there is very little risk to borrowers of taking out long-term loans. 

In Denmark, fixed-rate deals that run for 30 years are common. Special mortgage banks act as an intermediary between borrowers and investors who fund the loans by buying bonds. Borrowers make principal and interest payments to mortgage banks, which transfer the amounts to investors, minus administration charges. Borrowers can repay their loan in full at any time at the current market rate. 

In France, mortgages are typically fixed for 20 years. Borrowers can fix for a shorter term, but must pay a mortgage registration tax of roughly 1.5pc, which discourages regular remortgaging. Early repayments incur a 3pc fee in many cases. However, there are some French mortgages that have no early redemption penalties. 

Why hasn’t it worked in Britain?  

Customers, firstly, are to blame, say lenders. There’s not enough demand because borrowers prefer the flexibility of being able to switch deals. 

It has been tried before. In 2007 Gordon Brown, then prime minister, said he wanted to make longer fixes more available. 

Nationwide responded with a 25-year fix that cost 6.39pc. During the first 10 years of the loan, borrowers faced an early repayment charge of 3pc. Halifax followed with a 6.39pc 25-year fix, with identical penalties. At the time, the Bank Rate was 5.5pc and two and three-year fixed rates were hovering around 5.75pc. 

Other 25-year fixes were also available from building societies such as Kent Reliance and Scarborough. All had hefty early repayment charges and demand was low, so the products dwindled out. 

The last lender to launch a 25-year deal was Manchester Building Society, which introduced a 5.24pc fix in August 2012. The loan came with early repayment charges of 1.5pc for the first five years and 0.75pc for the next two. It is no longer available. 

Ray Boulger of brokerage John Charcol said lenders would need to remove or limit early repayment charges to attract borrowers. This would give more flexibility if their circumstances change and they need to move house, go through a divorce, repay the loan more quickly, or remortgage at a better rate. 

The main barrier at the moment, said Mr Boulger, is that longer deals put more pressure on lenders to hold capital. 

Another argument is that much profit from mortgages is generated in the form of upfront fees, rather than being built into rates. And mortgage brokers, who only make money when new loans are sold, are also arguably unlikely to recommend arrangements whereby they would never service their clients again. 

What are the benefits and risks to borrowers?  

The main benefit for borrowers is certainty around repayments. 

Borrowers are not affected by changes to interest rates and volatility in the wider economy and can be sure their repayments will not rise during the term of the loan. It also eliminates the costs that come with regular remortgaging. 

Some argue that long-term fixes take a lot of volatility out of the mortgage market – people do not struggle to pay their mortgage when rates go up, limiting defaults. 

But some borrowers have paid a high price for this certainty. Those that fixed in 2007 at 6.39pc lost thousands of pounds when interest rates plummeted to their current low of 0.5pc. 

The lack of flexibility also meant that borrowers who wanted to move to a cheaper rate, sell their house or pay off their loan faster were hit by substantial early repayment fees, trapping some in costly long-term deals. 

Tables: Today's best mortgage rates 

Our action points tips on fixed-rate mortgages 

If you’re tempted to delay the effects of a rate rise, there are a number of deals available that allow you to lock in today’s rates for up to 10 years. Here we look at the options. 

Work out if fixing is for you  

You can think of a fixed rate as an insurance policy – for which you pay a premium. As our chart (above) shows, that extra you have to pay is less than it was a few years ago. Crucially, you should work out if this is insurance you actually need. If you can cope with a certain number of rate rises then a tracker mortgage may be a good bet. You can do this on the calculators at telegraph.co.uk/mortgagetables. The general rule is to limit your repayments to 30-40pc of your income. 

Identify your options  

The longest deals currently available are 10-year fixes, but five-year deals are more common. There has been a marked shift in popularity from two-year fixes to five-year deals thanks to the falling cost of the latter. Simon Gammon, head of Knight Frank Finance, said five-year-plus fixed rates were increasingly becoming the “product of choice” for borrowers. Yorkshire Building Society and Norwich & Peterborough withdrew their best-buy five-year fixes of 2.69pc and 2.84pc respectively last week. 

Find the best five and 10-year fixes  

The best five-year fix is Tesco Bank’s 2.79pc loan, which comes with a £1,495 fee, according to Moneyfacts.co.uk. It is only available up to 60pc loan-to-value (LTV), so borrowers must have a 40pc deposit. YBS has a 2.84pc fix, available up to 75pc LTV, with a £975 fee. 

The best 10-year fix is N&P’s 3.84pc loan, available up to 75pc LTV, with no product fees. Barclays has a 3.89pc fix up to 70pc LTV with a £1,499 fee. All the best-buy deals come with early repayment charges of up to 7pc. Some lenders levy a charge on all early payments for the life of the loan, while others only charge a fee if payments are made within an initial period. Fees can be applied to the whole mortgage, or to the sum that is repaid early. These fees can be costly so consider whether it is worth the risk to lock your rate in. 

This week Hinckley and Rugby Building Society launched a five-year fix which, unusually, has no early repayment charges. It is priced at 3.55pc with a £990 fee and is available up to 80pc LTV. While the rate is higher than other products on the market, it could be a good option for borrowers with a smaller deposit who want the flexibility to redeem the loan early. 

Most lenders will let you “port” a long-term fixed-rate mortgage, or take it with you to a new property. However, the borrower will need to meet the lender’s criteria at the time of the move. 

What next for mortgage rates?  

Concern has been growing that as a more stable economic recovery takes hold, pressure will increase on the Bank of England to increase the UK Bank Rate. The Bank has said it would only consider doing so when unemployment fell to 7pc. 

That could be this year but markets still expect the Bank’s monetary policy committee to hold off until 2015. Regardless of what happens to the Bank Rate, rates on new mortgage deals may rise in coming months. 

One reason is the withdrawal of the Funding for Lending Scheme (FLS), a government-backed programme that offered £80bn of cheap funds to banks and building societies. It shaved a percentage point off the best mortgage rates taking them from 2.5pc to 1.5pc between the summer of 2012 and late 2013. 

Jeremy Duncombe of Legal and General Mortgage Club, said: “The danger for borrowers is that once rates start to go up it could be too late to fix.”