The Impact of fees

September 06

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This month I have remortgaged three properties - I had been meaning to get around to them for a while, since the market has been good, and there has been a lot of equity sitting in them.

As I have said before, I always use a financial advisor to help with my remortgages, and recommend that any investor do the same.

One of the things that surprised me was how high the fees were on many products, compared to a few years ago.

So, he and I got talking about how best to account for fees when comparing mortgages.

One approach, that many investors take, is to rely on the fact that fees can be added to the mortgage, and therefore just work out the uplift on monthly payments once they have been added on.

However, this approach does not appeal to me, particularly when used as a basis for comparing mortgages.

It is not at all uncommon in the property investment world to take out fixed-rate mortgages for periods of 2, 3 or 5 years. The problem comes at the end of these fixed periods, when interest rates can go up. In my case, a couple of the mortgages had gone up from under five percent to over six-and-a-half per cent.

One-and-a-half percent does not sound like a huge change, but proportionally, it is massive. For every thousand pound paid in interest during the fixed period, I stood to pay thirteen hundred pounds now (which over a block of properties, can add up to substantial sums.)

Comparing two potential mortgages is something that needs a little thought. One issue is the length of the fixed period - generally, the longer a rate is fixed for, the higher the level at which the rate will be fixed.

So, to compare apples with apples, I looked at three three-year fixed term options.

• Option 1 at 5.79 per cent, no fees
• Option 2 at 5.19 per cent, fees of 1.5 per cent
• Option 3 at 5.49 per cent, fixed fee of 599

The mortgage on this property was for 191,500, so the interest payable (excluding fees) would be:

• Option 1 - 924 per calendar month

Option 2 - 828 per calendar month

Option 3 - 876 per calendar month

A clear winner for option 2, were it not for those pesky fees.

The way that I decided to treat the fees was to treat them as short-term loans, that had to be paid off during the course of the mortgage.

This means that the fees had to be treated as:

• Option 1 - 0 per calendar month
• Option 2 - 80 per calendar month
• Option 3 - 17 per calendar month

Which made the total costs:

• Option 1 - 924 per calendar month
• Option 2 - 908 per calendar month
• Option 3 - 893 per calendar month

All of a sudden, Option 3 became the clear winner.

Now, all this was well and good, but the really good news was that, having decided to treat fees this way, it gave me a way to think about comparing mortgages with DIFFERENT fixed-rate periods.

In fact, I decided, after doing this, to go for an 18-month fixed period (with relatively low fees.)

Doing this minimised my monthly payments, and opened up the option to refinance (or sell without penalty) at that point, rather than being locked in for 3 years...

... however, the downside is that if, in 18 months time, rates are somewhat higher, and I hold (as seems likely based on my past track record), then I COULD end up paying rather more for my mortgage during the second half of the three years.

You can probably guess the punchline - I STRONGLY recommend that you go and see an independant financial advisor to present you different mortgage options...

... but I also recommend that you sit down with him/her and ask them how they are treating fees when comparing different products.

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