Cap your mortgage rate now!

Why you should take out a capped mortgage deal before it's too late.

Capped mortgages do exactly what they say on the tin. They offer a variable pay rate (either a discounted variable rate or a tracker) with a cap - that is a level beyond which the rate cannot rise.

Never heard of them? In the last ten years, capped mortgage deals have fallen out of favour with many borrowers. Low interest rates and extremely competitive mortgage lending have made them seem a little unnecessary and overcomplicated.

But now that the mortage market has become less competitive, and with interest rates set to rise, the safety of a capped rate is starting to appeal again. 

Cap now?

This week Yorkshire Building Society has launched a capped mortgage product for those who want to benefit from low rates while protecting themselves from future rate increases.

The lender's new two-year capped tracker rate is priced at an appealing 3.19% (Base Rate plus 2.69%), and is capped at 5.49%, meaning that whatever happens to interest rates, your pay rate will not go beyond 5.49% for the next two years.

In practice this means that any rate increases will be passed on to you up until Base Rate hits 2.75% -- if it went to 3% your cap would kick in and you will be protected from the rises at your capped payrate of 5.49%.

In return for this security the rate is also collared at 3% meaning that if rates were to be cut by a quarter percentage point or more, the decrease would not be passed on to you as the collar would be enforced.

But if rates remain at 0.5% for the next two years you would benefit from the low payrate of 3.19%.

The tracker deal is available to those with a 25% deposit or equity and comes with a new, reduced fee of £245. Plus purchasers get £250 cashback on completion; remortgagors can choose the cashback or free legal and valuation fees.

Pros of a capped rate

Capped rate mortgages are attractive to those who want the best of both worlds. You can benefit from a variable rate that has the potential to fall further if rates drop. And, in addition you get the advantage of knowing that your rate will not rise any higher than the agreed cap.

In other words you get the benefits of a variable and a fixed rate combined into one deal.

Because you know your maximum pay rate -- the cap -- you can work out the highest your monthly payments could possibly go for the duration of the deal. This helps with budgeting, particularly for first-time buyers who have many other costs to consider.

Any disadvantages?

You don't get something for nothing in the mortgage market and by opting for a deal that offers low payments and security you usually have to sacrifice something. It's often rate.

Capped rates tend to be slightly higher than equivalent fixed and tracker rates, as you need to pay to have your mortgage cake and eat it. They also usually come with higher fees than equivalent fixed, discounted or tracker rates -- something to watch out for if you are considering this type of mortgage. As always, look at the total cost of the mortgage, including any fees, not just the headline rate.

There will probably be an early repayment charge for the duration of the capped rate and it could be steep. This means that it will cost you to remortgage away from the deal during the capped rate period. The Yorkshire two-year capped tracker for example, comes with early repayments charges of 3% of the outstanding mortgage for the two-year duration.

After that you are free to switch but double check with other deals that the early repayment charges do not last for longer than the capped rate period, therefore locking you in beyond your deal.

There are only a handful of lenders offering capped rate deals, so your choice is very limited.

Capped rate best buys

Alternative options?

If you like the idea of a capped mortgage rate but don't fancy any of the deals on offer some lenders allow you to take out a tracker deal with them with the option of switching to one of their fixed rates at any point without incurring early repayment charges.

Cheltenham & Gloucester and Nationwide both have this option. This allows you to choose from the lenders' tracker deals and then, should you decide at any stage you would prefer a fix, you can lock into whatever fixed rates they are offering at that time.

Of course, the lender may not have particularly competitive fixed rates at the time you decide to switch, and as you are stuck with that lender, you are limited to one of their deals.

Another option would be to go for a penalty-free tracker rate without any early repayment charges. By doing this you can switch to any fixed rate on the market if you decide you want to shield yourself from rate payments, and you will have no early repayment charges to pay. Of course, you will still have to pay the mortgage application fees on your new deal, which could wipe out any savings on rate.

Whatever you decide, doing your research and working out the overall cost of the deal including fees, remortgage costs and your monthly repayments will enable you to see which is the best deal for you. If you don't fancy doing it yourself, one of our fee-free brokers should be able to help.

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