Your Mortgage Interest Rate – How Is It Set?

The Bank of England will announce its latest decision on interest rates later this week. But have you ever wondered who decides what your mortgage interest rate will be? Here we’ll explain how it all works.

The Bank Rate vs the mortgage rate

The first important thing to know is the difference between the Bank Rate (also known as the base rate) and your mortgage rate. They’re two different things.

The Bank Rate is set by the Bank of England (BoE).

Your mortgage rate is set by your individual mortgage lender.

Who sets the Bank Rate?

The BoE has been given the power to set the Bank Rate by the Government.

The Bank Rate is the official interest rate that the BoE pays to the banks that hold money with it.

The BoE uses this rate to manage the economy. It raises and lowers it to try to keep inflation in check, among other things. (Its primary aim is to keep inflation at 2% over the medium term.)

Usually, if the inflation rate goes up, the BoE will consider putting the Bank Rate up. If inflation falls, the BoE may consider reducing rates.

How the Bank of England sets the Bank Rate

The BoE has a committee known as the Monetary Policy Committee or MPC. The MPC consists of nine people, including the Bank’s Governor, Andrew Bailey, and eight other economic experts. They are appointed either by the Bank or the Chancellor of the Exchequer.

The MPC meets eight times a year to discuss the state of the world economy, the UK economy and inflation.

Then, the committee votes on whether to change the Bank Rate or not. The decision is made on a simple majority vote.

Who sets your mortgage rate?

The BoE doesn’t set your mortgage rate – your mortgage lender does. (Although there is a loose link between the Bank Rate and your mortgage rate – read on to find out what it is.)

This explains why different banks and building societies charge different mortgage interest rates.

How banks and building societies set their mortgage rates

Mortgage lenders don’t give away exact details of how they set their mortgage rates. It’s a trade secret.

But they take a few things into account.

One thing they take into account is the current Bank Rate. Also, whether they think the BoE will increase it, decrease it or keep it unchanged in the future.

They also consider how competitive they want to be in the mortgage market. That is, whether they want to sell a lot more mortgages right now or wish to be more cautious.

Lenders also consider what kind of profit margin they want to make on their mortgage lending.

Other factors mortgage lenders consider when setting their mortgage rates include the type of property they are lending on and the borrower’s credit status. The amount of the mortgage and the loan-to-value (or how big the mortgage is in relation to the value of the property) are also factors.

Your mortgage lender combines all these factors and more to decide the interest rate they charge you on your mortgage.

Interest rates are given as an APR or annual percentage rate. This allows you to compare mortgages from different mortgage providers side by side. (There may also be fees and charges on top.)

Do mortgage rates go up and down when the Bank Rate changes?

The answer is yes and no. It depends on what type of mortgage you take out.

With a variable rate mortgage, sometimes known as a standard variable rate mortgage, your lender can change the interest rate at any time they like. They may change this either up or down when the bank rate moves up or down. But they don’t have to.

Some people take out fixed-rate mortgages. With these, your mortgage interest rate stays the same until the end of the fixed term (one, two or five years, for example) even if the BoE changes the Bank Rate.

With tracker mortgages, the interest rate you pay tracks the Bank Rate by a fixed percentage. If the Bank Rate goes up or down, your mortgage rate will go up or down by this fixed percentage.

It’s really important to realise that the mortgage rate you pay can make a big difference to what you pay every month and to the amount you repay overall. Always take financial advice when taking out a new mortgage or remortgaging.

We hope you’ve found this explainer useful. If you’re thinking of buying a new home, contact us today. If you’re considering selling, why not ask us for a valuation on your current home?

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