Low Rates Mean High Fees

Don't be fooled by ultra-low interest rates on mortgages, because it's likely that high fees are lurking in the small print!

One trick that mortgage lenders employ more and more often nowadays is launching low-rate, high-fee home loans. In other words, they launch mortgages with headline-grabbing interest rates which are subsidised by above-average arrangement fees.

Indeed, mortgage lenders know that borrowers are fairly blinkered, with most failing to look beyond the attractive interest rate in large print. Thus, prospective homebuyers and existing homeowners need to tread carefully, because these low-rate, high-fee mortgages could catch out many unsuspecting borrowers.

Of course, the simple answer is to look at the whole package, which enables you to take everything into accounts, including interest rates and any arrangement and exit fees. By doing this, you avoid making the mistake of not giving the proper weighting to a large fee. In the worst-case scenario, the arrangement fee is added to the loan, increasing the debt and forcing up your monthly repayments.

The table below shows six two-year, fixed-rate mortgages that have been launched recently which definitely fall into the 'low-rate, high fee' category:

Source: Moneyfacts

As you can see, there are two types of fee: a flat fee (such as those charged by Stroud & Swindon BS and Bradford & Bingley), which can be as high as £2,500. The second option is to charge a percentage fee based on the amount borrowed, which can be as high as 3.5%. Of the two, I prefer fixed fees, because at least they are plain to see.

Indeed, I frown on percentage-based fees, because the larger the loan, the larger the fee. For example, the Northern Rock mortgage shown above would levy a whopping fee of £7,000 on a £200,000 mortgage. How on earth can the lender justify charging such a fee? After all, arranging a £200,000 mortgage certainly does not take twice as much work as processing a £100,000 home loan. Hence, it's obvious to see that these are not 'arrangement fees' at all -- in fact, they are interest-rate subsidies, pure and simple!

When you calculate the true cost of these loans, taking all expenses into account over two years, it's easy to see which are Best Buys and which are Don't Buys, as the following table shows:

Source: Moneyfacts

For a £130,000 mortgage, the best deal of the six comes from Bradford & Bingley. Despite its higher interest rate, Bradford & Bingley charges almost £1,500 less than Northern Rock does, thanks to a much lower fee. For a £250,000 mortgage, the difference is even greater: Bradford & Bingley takes gold again, charging over £4,000 less than Northern Rock for a two-year fixed rate.

For the record, none of these mortgages is the cheapest when we look at the true cost of fixed-rate deals over two years. For a £130,000 mortgage, that accolade goes to Cheshire BS, as you can see below:

Thus, despite its substantially higher interest rate, Cheshire BS wins through by virtue of its low fee. However, for larger loans, Bradford and Bingley and Stroud & Swindon BS do well because of their flat fees, with the percentage-based fees still proving very uncompetitive.

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