What Are Early Repayment Charges and How Do They Work?

24/07/2019

An early repayment charge on a mortgage, known by its abbreviation, ‘ERC,’ is a fee that is applied to those who wish to make their mortgage repayments ahead of schedule. Early repayments done correctly, can lead to borrowers paying off their mortgage faster than their current, often fixed plan. This in turn means less interest accrued and the mortgage provider in effect, acquiring less profit from the mortgage deal.

ERCs are used so that lenders can make back at least some of the profit they would have made in interest had the borrower stuck to their fixed mortgage repayment plan. ERCs tend to come into play in cases of longer-term mortgages. In cases of usually shorter term mortgages like mortgages for home improvement, where relatively smaller amounts are borowed, ERCs may not be necessary.

Do All Mortgages Have ERCs?

Early repayment charges come with most types of mortgage deals, even variable-rate home loans. The only type of mortgage that will not typically come with an ERC is a standard rate variable loan (SVR). This type of deal is what lenders will often place you on if your current deal has ended and you have not made other arrangements to switch to another mortgage deal. SVRs typically come with the highest interest rates out of all mortgage deals available.

People will typically accept having to make early repayment charges in order to save money on their overall and medium to long term mortgage repayments. It is a significant financial move that requires a lot of careful thought and consideration.

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How Do Early Repayment Charges Work?

Early repayment charges will vary in their precise nature depending on your specific mortgage repayment plan with your lender. Typically, the charge is usually between 1% to 5% of the total mortgage value.

It is best to check with your specific home loan provider to make sure exactly what you’ll be charged. You will find the ERC rate, if any applies, clearly displayed on the lender’s original home mortgage loan offer to you.

Your mortgage provider must adhere to the Financial Conduct Authority’s regulations for ERCs, with the charge having to be valid and in line with the losses that the provider will have accrued from a borrower’s early repayment. The cost of the ERC must also be clearly stated to borrowers prior to any contract being signed.

Although 1% to 5% doesn’t seem like much when it comes to a mortgage, this can still amount to a very considerable fee. If for example, the total value of your mortgage is £200,000 and you are charged the minimum 1% ERC, this still amounts to at least £2,000.

When Should I Make Early Repayments on my Mortgage?

ERCs can have quite the impact on your finances. It is important to consider all options before going through with early repayments on your current mortgage deal. Below are two of the significant factors you should consider before going through with early repayments on your home loan:

1.     Existing debts

2.     Financial situation after ERC

Consideration of the above factors can help you to make a secure decision on whether to make early repayments on your mortgage. However, if attending to other outstanding debts will mean you struggling to make your mortgage repayments, you should strongly reconsider, in order to avoid your property being repossessed.

Considering Your Existing Debts

It may be better to use your money to consolidate and pay off existing debts rather than using that money to pay off your mortgage, which will also go some way in helping to improve your credit score. Mortgages will typically come with significantly lower interest rates compared to debts racked up from the likes of credit cards and other unsecured loans.

You may well save more money on interest rates by paying off these other existing debts first.

Your Financial Situation After Early Repayment Charges

As with any charge incurred, it is important to calculate what your financial situation will be after paying off your mortgage including any early repayment charges. If this repayment is manageable though, and will inevitably better your financial situation, it may be worth strongly considering.

However, if paying off your mortgage early has the potential to worsen your financial situation and make things more difficult for you and your dependents, it is likely to be best not to go through with early repayment.

What Else is There to Know About Early Repayment Charges?

Remember that you should always keep enough money saved up to see you through any early mortgage charges and mortgage repayments. This will ensure you can financially stay afloat during the early repayment process, and minimise the risk of any financial struggle during this major financial move.

In addition to this, it is also worth seeing whether your mortgage is a flexible mortgage. These types of mortgages can often let you make an overpayment on your repayment plan without charging for it. They can also enable you to effectively take the money back if you are financially struggling.

If you have weighed up all the factors, considered all options carefully and correctly, and still feel that making an early repayment on your mortgage is the best option for you, all that is left to do is pay the charges in question.

Making early repayments on your mortgage can ultimately help you pay off your mortgage faster, and reduce the amount of interest accrued from this home loan significantly.

As a mortgage is secured against your home, your home could be repossessed if you do not keep up the mortgage repayments. Think carefully before securing other debts against your home.

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