What is a discounted variable-rate mortgage? Here’s all you need to know...

Posted 27 November 2015 by Keith Osborne

We take a look at whether the alluring low rates on offer mean you should opt for a discounted variable rate mortgage...

If you're looking to take out a new mortgage, you generally have a choice of three types of deal. While fixed-rate and tracker-rate deals are popular, thousands of borrowers a year choose a discounted variable-rate mortgage.

Discounted variable rates can help you to reduce your repayments in the early years of your mortgage by offering you a discount on a lender's interest rate - most commonly its standard variable rate (SVR).

For example, if a lender's SVR is 4% and you take a 1% discount rate, your interest rate would be 1% lower than your lender's SVR for a defined period. In this example you would pay a rate of 3%.

If the lender's SVR rose to 5%, you would see your payments rise as you would now be paying 4%. Similarly, if the lender's SVR fell to 3%, your interest rate would fall to 2%.

Discounts generally apply for between two and five years although a few 'lifetime' discounted deals are available. When your discounted rate comes to an end, you will generally revert to your lender's SVR.

What are the advantages of a discounted variable-rate mortgage?

There are many reasons why you would choose a discounted variable-rate mortgage.

Firstly, a discount means that your rate will always remain below your lender's standard variable rate for the length of the deal. In certain situations this could mean that your repayments may be lower than alternative types of product. For example, if interest rates are low then SVRs also tend to be low. If you are benefiting from a further discount then you could be paying a very competitive rate of interest.

Discounted rates are also beneficial in an environment where interest rates are falling. As a lender cuts the cost of borrowing by reducing their SVR you will see your interest rate - and your repayments - fall.

In addition, discounted variable-rate mortgages can often have lower arrangement fees than fixed- or tracker-rate deals.

What should I bear in mind if I choose a discounted variable rate mortgage?

One of the major drawbacks of a discounted variable-rate deal is that you have no control over your repayments. A fixed rate means you know exactly what your mortgage repayments will be for a certain period but with a discounted rate your repayments could change often as prevailing interest rates change. If interest rates start to rise you could see your repayments increase significantly.

Similarly, at the end of your discounted variable rate you can often find that you face a steep rise in your repayments when you revert to your lender's SVR.

You should also bear in mind that, as with other types of mortgage deal, you may have to pay an early repayment charge if you pay off some/all of your mortgage within the discounted period. While many lenders will let you make some overpayments, if you decide to come out of your discounted variable rate in favour of another product you could face a significant charge.

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