How rising interest rates will impact your mortgage and savings

Interest rate An estate agent property advertisement is seen painted on a wall in London, Britain, May 15, 2019. REUTERS/Toby Melville
Bank of England's interest rate hike means higher monthly payments on debt for businesses and homeowners. Photo:Toby Melville/Reuters

Around 2 million households face a hike in monthly payments rise following the Bank of England’s decision to lift the interest rate to 1% that will cost families £858m.

According to credit app TotallyMoney, a rise of 1% above the 0.1% at which base rate was sitting for most of 2021, will increase mortgage payments by £99 per month or £1,188 per year for a 75% loan-to-value (LTV) mortgage on the average UK property costing £270,708.

Across the UK around 850,000 properties are on tracker mortgages, which directly follow the Bank of England base rate, while 1.1 million are on standard variable rates which follow a rate set by the lender, which usually closely follows the BoE’s interest rate.

Analysis of Bank of England data by Mazars shows UK households are currently paying £18.3bn annually in interest payments on floating rate debt that are likely to be immediately impacted by an interest rate rise.

This includes floating-rate mortgages, credit card debt and other unsecured personal lending. Consumers will be hit by further rises as fixed rate debt is converted to floating rate.

With rates rising by just 0.25%, annual interest payments would increase to £19.2bn almost overnight, £858m more.

Further increases in the base rate would have an even bigger impact. If interest rates were to rise to 2%, household interest payments would rise by a further £4.3bn to £22.6 bn.

Paul Rouse, partner at Mazars, said: “UK households are now burdened by a huge amount of debt. Even a modest rise in the bank rate adds hundreds of millions of pounds to repayments almost immediately.”

“It is important that UK households are prepared for the impact of interest rate rises on their budgets. With spiralling energy bills and food costs already becoming unmanageable for a growing number of families, the last thing they need is for their debts to become more expensive.”

Mazars said that the majority of the rise in interest payments would be driven by floating rate mortgages. UK borrowers currently have £267bn of floating-rate mortgages secured against their homes, at an average interest rate of 2.71%.

Paul Rouse added: “With just 17% of mortgage debt now on a floating rate, most UK borrowers are insulated from a rise in interest rates until their mortgage fixes expire. However they are likely to feel the pain the next time they come to remortgage.”

Read more: Bank of England raises UK interest rates to 13-year high of 1%

The Bank of England’s interest rate sets the level of interest all other banks charge borrowers. This base rate impacts other interest rates, including the mortgage base rate.

If interest rate goes up, payments on a variable-rate mortgage will increase. This is typically a tracker that follows the base rate, or a loan on a lender’s standard variable rate.

In London, the research by TotallyMoney revealed, mortgage payments will increase to £191 per month or £2,292 per year for a 75% LTV mortgage on the average London property costing £519,934.

Those in the South East with an average property price of £369,093 would see annual costs rise £1,620 on the same terms.

In the North East with an average price of £149,249 a 75% LTV mortgage would cost an extra £648 a year.

The following tables show both the monthly and annual cost of a 1% rate increase on a 25-year mortgage at three separate loan-to-value ratios. Source: research commissioned by TotallyMoney
The following tables show both the monthly and annual cost of a 1% rate increase on a 25-year mortgage at three separate loan-to-value ratios. Source: research commissioned by TotallyMoney

TotallyMoney's analysis found one in four mortgage customers currently had no protection against interest rate increases and were already facing higher payments.

Alastair Douglas, CEO of TotallyMoney, said: “As the Bank of England increases the base rate to ease inflationary pressures, the two million homes on variable-rate and tracker mortgages will see their household finances squeezed even more.

“And the situation isn’t going to get much better for those nearing the end of their current deals. They have a choice of facing the more expensive SVR or having to switch to a new, and more expensive fixed-rate product.”

He added: “Customers feeling the squeeze from the increased cost of living should consider cutting back on using expensive credit lines such as overdrafts, and move interest-bearing credit card balances to a 0% offer.

“By reducing the interest being paid, customers can repay their debts quicker, or use the money saved to cover other costs.”

Read more: UK mortgage borrowing hits £7bn as house prices surge

Homeowners on fixed-rate deals, will not feel the effects until their fixed term ends and they’re moved across to their lender’s standard variable rate (SVR).

Research by MoneySuperMarket revealed that consumer interest in 10-year mortgages is at a historic high, as homeowners seek to keep their monthly payments down with interest rates on the rise.

With experts predicting interest rates could hit 3.8% this year, MoneySuperMarket site data reveals that 18.1% of re-mortgage queries in March related to 10-year fix deals. This is compared to 3.8% 6 months ago and 2.9% 12 months ago.

Read more: Bank of England: Russia-Ukraine crisis could drive UK inflation higher

Ashton Berkhauer, mortgage expert at MoneySuperMarket, said: Interest rates have a direct impact on mortgage repayments, so it’s no surprise that with rates on the rise and so much economic uncertainty, homeowners are seeking to lock in longer deals and give themselves some financial protection.

“However, while 2- and 5-year fixes are common, the growth in interest in 10-year deals is noteworthy and a sign of homeowners’ growing concerns about interest rate rises.

“However you feel about the prospect of further rate increases, it’s always important to ensure that you’ve got the right mortgage deal, so make sure you do your sums and shop around for the best deal for your needs.”

A higher base rate, however, is good news for savers, who will earn better returns.

Alice Haine, Personal Finance Analyst at investing platform Bestinvest, said that for savers, an interest rate rise can only be a good thing, but they may need to be patient.

"Savings rates will tick up very slowly and very gradually in the coming weeks and months as banks and building societies can sometimes take their time to pass on the uplift. Savings rates could also get a leg up from the winding down of quantitative easing.

“However, despite rising rates, when adjusted for very high levels inflation, the real returns on cash savings are deeply negative and so hoarding large amounts of cash for long-periods of time, is a sure way to get worse off.

“If you do have cash to stash away for short-term needs or for want to park your emergency pot somewhere that pays a healthier return, then shop around for the best savings account. Every penny in additional interest is a bonus at a time when high inflation eats away at the purchasing power of cash savings. With many households dipping into emergency pots in these financially difficult times, you want to make your money work as hard as it possibly can for you.

“For those who want to save for a longer period, then it would be wiser to invest that money to protect it from the double blow of low savings rates and high inflation. While higher returns from the stock market are never guaranteed, a long-term approach means your investment portfolio can absorb the highs as well as the lows and deliver better growth in the process.”

However, Hinesh Patel, portfolio manager at Quilter Investors, warns that gains will be minimal.

"Savings rates could improve following this rate rise, though will only be marginal offset the cost of living crisis currently being faced. With the Fed moving harder with rates yesterday evening, many will have hoped to have seen the same from the BoE today. With inflation continuing to soar, the Bank risks doing too little too late," he said.

Becky O'Connor, head of pensions and savings at Interactive Investor, agrees. "People with cash savings have been losing money in real terms for some time, in more than a decade of low interest rates.

“Some savings rates will now rise, but not all – and certainly not all in line with the base rate rise. For those wanting to keep money in cash, the good news is you might get at least some reward, the bad news is you will really have to hunt for the best rates around and accept that inflation will most likely still be eroding your returns for some time to come.

“If you don't need the money for a few years, investing might offer higher returns. But there are caveats, as higher rates and high inflation are affecting investment returns in different ways, too.”

Watch: How does inflation affect interest rates?