Protecting Yourself Against Mortgage Interest Rate RisesPosted on: 09 December 2008 by Gareth Hargreaves
50connect reader Andrew asks our financial expert Peter McGahan about mortgage interest rate rises.
Don't get your mortgage protection plan policy mixed up with other similar policies.
I have read about a policy that protects me in the event that my mortgage interest rate goes up and wanted to know if you have reviewed such a plan?
I know exactly the plan you are referring to. There are a number of different types of insurance policies to cover mortgages including mortgage protection and payment protection insurance (PPI) and you should not mix this plan up with them.
Mortgage protection covers your mortgage in the event of death or critical illness and PPI covers you if you have lost your job. There is also an accident sickness and redundancy plan (ASU) which pays out in the above events.
Many of these have had their bad press particularly as they have been sold as a bolt-on to loans for people who will not be able to claim for them. For example many plans have been sold as redundancy cover to those who are self employed! How can they lose their job?
If you think they represent poor value for money, consider the market guard interest rate insurance. Woohoo what a solution this is!
This plan pays out should the interest on your mortgage increase by more than a percentage you specify at the outset.
Who on earth would consider such an arrangement? It is the ultimate in trying to glue water to jelly.
Clearly with today’s market it's easy to see we are in a falling interest rate environment. In fact it was still blatantly obvious when we had soaring inflation, that interest rates would have no bearing on this as it was driven by false inflationary pressures such as speculative commodity investing.
And so interest rates had to come down. Yet here we have this bundle of joy which is going to offer perceived protection against rising rates!
I had looked at an example, which considered someone with a £150,000 mortgage outstanding over 20 years on an interest only basis. The borrower/insured would choose an excess of x% and the insurance covers them for all increases above that amount. For this example we will say the excess is 0.25%.
The premium for this is £70 pm. So let's look at a few potential examples of what may happen: Interest rates rise by 0.25%, so nothing is paid out as this is the excess. So you have a £70pm premium to find along with the extra £31.25 interest.
Rates rise by 0.5%, so the customer will now only get covered for the 0.25% i.e. £31.25 although you still have to pay the £70 premium and the initial £31.25 excess.
It is only when the interest rates rise by 1% that you would be in pocket for that month (forgetting what you have lost up to that point).
Rate rises of 1% in today’s climate? I hardly think so. Even then you would only be £23.75 better off.
The plan only pays out when the bank of England base rate rises as well as the lender’s.
The premium alone equates to 0.56% of the outstanding mortgage and with the standard excess of 0.25%, the borrower is effectively paying 0.81% per year for the potential of something no-one is predicting – rising interest rates.
Personally I have better things to do with my money. It may come as no surprise to you that at least one well known bank offers such a product, but then times are hard.
In today’s market, we also have to consider the ability of the company to meet its liabilities in the event of larger rises in interest rates. Are they reinsured well enough to pay out and remember this is clearly when customers would be hoping the insurance would kick in.
It may be that for most borrowers, fixing their rates is a more viable option, rather than the cheap quick add-on sale to someone’s mortgage application that such plans have mutated to.
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