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It’s always a good feeling when you repay your mortgage early, but it’s also worth checking the terms and conditions of your mortgage to make sure there are no unexpected costs to do so.
Read on to find out exactly what an early repayment charge is and how you may be able to avoid it.
What is an early repayment charge? (ERC)?
A mortgage early repayment charge (ERC) is a fee that a borrower may have to pay if they choose to pay off their mortgage, either partially or in full, before the end of the agreed term.
The ERC is typically expressed as a percentage of the outstanding mortgage balance or as a certain number of months’ interest payments.
The amount of the ERC varies depending on the terms and conditions of the mortgage contract and may be higher if the borrower repays the mortgage in the early years of the loan term.
Why do lenders charge early repayment charges?
The ERC is a penalty fee charged by the lender for the financial loss incurred due to the borrower’s early repayment.
When a borrower repays their mortgage early, the lender loses out on the interest income they would have earned over the remaining term of the loan.
The lender may incur administrative expenses associated with processing the early repayment.
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When does an early repayment charge apply?
The specific terms and conditions of the mortgage contract will determine when an ERC applies.
Generally, mortgage lenders offer a window of time during which borrowers can make early repayments without incurring an ERC. This is often called an “overpayment allowance” and is typically a percentage of the outstanding mortgage balance, such as 10% per year.
If the borrower exceeds the overpayment allowance, the lender may charge an ERC on the amount of the early repayment.
Example:
For instance, suppose a client has an outstanding mortgage balance of £100,000 and an annual overpayment allowance of 10% without any penalty.
In this case, the client can overpay up to £10,000 annually without any extra charges.
However, if they overpay £30,000, which exceeds the overpayment allowance by £20,000, a 5% exit fee applies to the excess amount of £20,000. So, in this example, the client would have to pay an additional £1,000 as an exit fee.
- £100,000 mortgage
- 10% overpayment allowance (£10k)
- 5% Early repayment charge penalty
- £30,000 overpayment
- £20,000 liable to 5% ERC
- £1,000 ERC payable
How much is an early repayment charge?
The amount of an early repayment charge (ERC) that a borrower has to pay will vary depending on various factors, such as the lender’s criteria, product type, and the length of time elapsed into the mortgage deal.
Different lenders have their own set of ERCs that they charge to offset the losses they incur from borrowers repaying their mortgages early.
For some lenders, the ERC amount remains fixed throughout the initial benefit period, while others have a tapering system that decreases the ERC amount as the mortgage term progresses. Generally, fixed-rate mortgages have higher ERCs than tracker or variable-rate products, which often have either no or low exit fees.
Longer-term fixed-rate mortgages typically have higher ERCs than shorter-term deals. The ERC is usually expressed as a percentage of the outstanding mortgage balance, which can range from 1% to 5% or even more, depending on the lender and product type.
Can I get a mortgage with no early repayment charges?
Borrowers who prefer flexibility when it comes to mortgage repayments can opt for mortgages with no early repayment charges (ERCs). Such products are typically available on tracker or variable-rate mortgages, where borrowers may find that they either have no fees or significantly reduced exit fees compared to fixed-rate mortgages.
For instance, a two-year fixed mortgage usually incurs an ERC ranging from 1% to 3%, while a tracker or variable rate mortgage may have no exit fees or a smaller charge ranging from 0.25% to 1%.
However, it’s worth noting that most mortgage products with no ERCs come with arrangement fees, which are used to cover some of the set-up costs. This is to ensure that the lender can recoup some of the costs incurred if the borrower exits the mortgage early.
Although tracker or variable mortgages offer more flexibility when it comes to making overpayments, they do not provide the same level of certainty as fixed-rate mortgages.
This is because almost all fixed-rate mortgages come with some form of early repayment charge (ERC), while tracker or variable-rate mortgages may not have any ERCs or may have lower charges.
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How can I avoid paying the ERC when I remortgage or move house?
Stay with your existing lender
When it comes to remortgaging, there are a few ways to avoid paying exit fees depending on your situation. If you’re already halfway through your term and want to stay with your current lender, you can simply remortgage with them instead of switching to a different one. This way, you won’t have to pay an exit fee as you’re not redeeming your mortgage.
However, if you do have early repayment charges (ERCs) and decide to switch lenders mid-term, you will have to pay the exit fees. One way to avoid this is to take out another mortgage, such as additional borrowing, with your current lender. This option allows you to access more funds without having to redeem your existing mortgage, therefore avoiding any exit fees.
Second charge
Another option is to take out a second charge on your property if your current lender does not allow you to raise additional funds. This way, you can still access the funds you need without having to pay an exit fee.
Porting
If you’re looking to move home and want to avoid ERCs, you may be able to port your existing mortgage. This means transferring your current mortgage to your new property, which can be done with the same lender or a different one. If you’re able to port your mortgage, you can avoid any exit fees that may apply to redeeming your mortgage.
When is it worth paying an ERC?
Whether it’s worth paying an ERC or not depends on your specific circumstances. Here are some factors to consider:
- Savings on interest: If you’re planning to switch to a new mortgage deal that offers a lower interest rate than your current one, it might be worth paying the ERC to save money on interest payments in the long run.
- Change in circumstances: If your financial situation has changed and you’re no longer able to afford your current mortgage payments, it might be worth paying the ERC to switch to a more affordable mortgage deal.
- Moving home: If you’re planning to sell your current property and buy a new one, you may need to pay an ERC to redeem your mortgage early. However, if the new property is more expensive, you may be able to transfer your existing mortgage to the new property without having to pay an ERC.
- Length of time left on your mortgage: If you’re close to the end of your mortgage term, it may not be worth paying an ERC to switch to a new mortgage deal, as the savings on interest may not be significant enough to justify the cost of the ERC.
Where can I find out the details of my early repayment charge?
To find the details of your early repayment charges (ERCs), you should refer to your mortgage agreement and the associated terms and conditions. The ERCs should be clearly stated in these documents.
You can find your mortgage agreement in your online banking account or in the documents that were provided to you when you first took out the mortgage.
The ERCs may be listed under a section called “Early Repayment Charges,” “Redemption Charges,” or something similar. If you’re having trouble finding the details of your ERCs, you should contact your lender directly.
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Is it worth paying an early repayment charge and fixing it?
Whether it’s worth paying an early repayment charge (ERC) to fix your mortgage rate depends on your individual circumstances. Fixing your mortgage rate can offer stability and protection against rising interest rates, which could result in higher monthly payments if you have a variable-rate mortgage.
If you’re planning to stay in your home for the long term and you expect interest rates to rise, fixing your rate could save you money in the long run. However, if you’re planning to move home or you think interest rates may fall, it may not be worth paying the ERC to fix your rate.
It’s important to carefully consider the costs and benefits of fixing your rate and paying the ERC.
For more info early repayment charges, please contact a member of the Strive team, by emailing [email protected] or call us on 01273 002697.
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