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, can lead to borrowers paying off their mortgage faster than their current plan. This may mean less interest accrued and the mortgage provider in effect, acquiring less profit from the mortgage deal.

ERCs help lenders recoup some profit they would have made in interest had the borrower stuck to their fixed mortgage repayment plan. Early repayment charges tend to come into play in cases of longer-term mortgages. In cases of short term mortgages like mortgages for home improvement, where smaller amounts are borrowed, ERCs may not be necessary.

Do All Mortgages Have Early Repayment Charges?

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 ends having not made other arrangements to switch mortgage deals. 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 nature depending on your 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 they charge. You will find any early repayment charge rate, 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 early repayment charges. The charge must be valid and in line with the losses that the provider will accrue from a borrower’s early repayment. The cost of the ERC must also be clearly stated to borrowers prior to signing any contract.

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

When Should I Make Early Repayments on my Mortgage?

Early repayment charges 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 can help you to make decisions on whether to make early repayments on your mortgage. If attending to other outstanding debts will mean struggling to make your mortgage repayments, you should strongly reconsider, 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. This can go some way in helping to improve your credit score. Mortgages will typically come with lower interest rates compared to debts from the likes of credit cards and 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, be sure to calculate your financial situation after paying off your mortgage including any early repayment charges. If this repayment is manageable and will better your financial situation, it may be worth 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, 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 risks of a financial struggle during this major financial move.

It is also worth seeing whether your mortgage is a flexible mortgage. These types of mortgages may let you make overpayments on your repayment plan free-of-charge. They can enable you to take the money back if you are financially struggling.

If you have weighed up all the factors, considered all options carefully, 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 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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