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What is a fee-free mortgage?
Taking out a mortgage generally incurs an arrangement fee for the buyer. Over time, these fees have crept up and up, and can now cost a buyer well into the thousands. A fee-free mortgage is a mortgage offered without any arrangement fee. This may sound like a better scenario, but as you can imagine, it’s not that simple!
What is an arrangement fee?
An arrangement fee is a fee paid to the lender for processing and organising the mortgage for you. However, many lenders will allow this fee to be added to the loan value - for example, if you are taking out a £150,000 mortgage subject to a £1,000 fee, the lender can offer you a mortgage for £151,000 instead. This may help buyers who are on a tight budget and don’t have the funds to pay an upfront fee, but by combining the fee into the mortgage it becomes subject to the interest rates of the mortgage deal. Over time the buyer will eventually pay back a higher amount than if they had paid the fee up front.
However, rather than deciding whether to pay the arrangement fee up front or rolling it into the loan amount, some lenders offer mortgages without any arrangement fees at all. This can sound more appealing to buyers.
What are the disadvantages of a fee-free mortgage?
Fee-free (or low-fee) mortgages often have higher interest rates. In fact, the two operate in parallel to each other - the best interest rates available are generally associated with the highest arrangement fees.
It’s up to the buyer to decide what suits them best. Some will prefer not to pay an upfront fee, keeping funds free for renovation or redecoration. Others prefer to look at the long-term view, and keep lifetime costs down by paying a fee up front.
As a general rule, if you are taking out a large mortgage, an additional fee won’t have much overall impact. On the other hand, individuals taking out a smaller mortgage will feel a bigger impact from any arrangement fees, and may be better off choosing a low-fee or fee-free mortgage.
How do I work out whether a fee-free mortgage is the best option?
The only way to calculate the best deal is by doing the sums. Most mortgages start with a fixed rate deal for two, three, five or ten years. This is the time period you should look at.
As an example, you might be considering a three-year fixed rate mortgage at 3.75%, and you want to borrow £200,000. Your monthly repayments would be £1,028 (you can use our online mortgage calculator to help work this out). Over the three years, you will pay back £37,008. If your arrangement fee is £995, this means you will pay back a total of £38,003 over the three years.
Compare this with a slightly higher interest rate, but no fee. For example, if you want to borrow the same amount as above, but at 3.85% interest. This time you would pay back £1,039 per month, or £37,404 over three years. This will save you £599 over the three years. In this example, a higher interest rate and no fee would leave you almost £200 a year better off.
What about other fees?
A fee-free mortgage may be exempt from an arrangement fee, but you will still have to pay other associated fees. These include:
- Application or booking fee — Paid at the start of the application (non-refundable)
- Valuation fee — The fee for the lender to send someone out to view and value the property
- Legal fees — Paid to a solicitor or conveyancer to complete the sale
- Early repayment charges — Fees applicable if you try to pay off your mortgage earlier than the agreed date. Some lenders allow you to pay up to a certain additional amount each year (such as 10% of the outstanding amount). Anything over this amount will be subject to high fees, typically 2.5%.
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Last updated 28 February 2024