Many households face the prospect of higher mortgage payments as the Bank of England continues to turn the screw on the UK economy by raising interest rates to quell inflation.
If that includes you, how can you best prepare?
It’s not an easy question to answer. Each person’s circumstances are different.
Still, there are three broad choices you could consider:
- Adjust your mortgage.
- Adjust your emergency cash savings.
- Adjust your investments.
Or a mixture of all three.
Adjust your mortgage
If you’re troubled by the prospect of being switched onto a higher standard variable rate or of being unable to refinance with a new fixed rate when your current deal runs out, contact your existing mortgage provider. Explore your options.
UK mortgage providers committed late last year to do more to help affected borrowers better prepare if caught out by rising rates1. It was a message reiterated last month when lenders representing three quarters of the mortgage market said worried mortgage holders could contact them without it affecting their credit scores.
It was just one of several pledges designed to support mortgaged homeowners.
Tailored support will likely vary by lender. But it’s good to talk. And the sooner you do it, the sooner you can relieve some of the extra burden looming over your finances and ease your worries.
Adjust your emergency cash savings
We generally suggest people save enough rainy-day cash before they even think about investing with us.
Building an adequate emergency-cash buffer is sensible financial planning. It’s a key step on the road to financial well-being, as we highlighted in our recent series. By planning for the unexpected, such as major one-off expenses or surprise losses of income, you can turn a potential crisis into a manageable setback.
For one-off expenses, one rule of thumb is to keep the greater of £2,000 or half a month’s expenses in a bank account. To cover an income shock, though, you would probably need more. We generally suggest enough to cover at least three months’ worth of your outgoings and perhaps as much as six months.
The mortgage challenge these days is more of a known known - rather than the known unknown that a leaky roof or sudden contract loss would represent. But you can treat it just the same by beefing up your emergency cash fund, if you can, so that it covers the extra outgoings you expect - and for a few additional months too, just to be on the safe side.
If you have any high-interest-bearing debt such as credit card debt outstanding, though, consider clearing it first.
To help you better plan your household budget and see what you may be able to do to set aside more cash, try the National Debtline website’s handy online tool.
Adjust your investments
It may be that you foresee having to dip into other savings, including some of your investments, to cover some of the potential additional expenses. If so, it may be worth shifting some money out of shares and even bonds into something that is more stable and cash-like until you need the money.
At Vanguard, our lowest-risk fund is the Sterling Short-Term Money Market Fund, which seeks to provide stability by investing in short-term money market instruments. Remember, though, that while it is low risk it is not without risk.
The value of your investment may fall as well as rise and you may get back less than you invested.
Of course, this presumes that your investments are held in an account that you can easily access, such as a tax-efficient individual savings account (ISA) or general account, rather than a pension that you can’t access until you’re at least 55 (or 57, from 2028).
However, if you’re tempted, it’s worth recalling why you invest in the first place – the goals you hope to achieve and the future you. Don’t ever lose sight of that.
It’s a similar story if you’re ever tempted to cut back on your ISA or pension contributions to build up your cash buffer. Think hard, especially, before cutting back on any matched contributions to your workplace pension.
Alternatively, consider how you can make your investments work harder for you by cutting down on costs. In the same way that you can save money by changing house insurer or energy supplier, you can also save considerable money by transferring more of your ISA or pension investments to a low-cost provider.
The only proviso, since your existing investments would usually have to be cashed in first2, is that your money would not be invested for a time during the transfer3.
But take just a 1.5% cost saving. How much difference could it make over time? The answer is, quite a bit, potentially, as demonstrated by the chart below, which shows how £500 invested per month would grow over 30 years-plus if the average annual market return was 6% and annual costs were either 0.5% or 2%.
How £500 a month might grow under two different hypothetical cost scenarios
Source: Vanguard. Notes: Both scenarios assume an annual market return of 6%. The costs total 0.5% in the case of the 5.5% net return and 2% in the case of the 4.0% net return.
You may not see the savings in the same way – it won’t impact your day-to-day budget. But over time, as the chart demonstrates, these savings could run to thousands of pounds, if not tens of thousands of pounds, and shape your household budget in the future.
This is because every pound saved in costs is an extra pound invested that can build and continue building through the power of compounding.
It’s one potential source of consolation when other costs are going up.
1 Lenders at this meeting, representing 97% of outstanding mortgage loans, pledged among other thing to help customers switch to new competitive deals without the need for new affordability tests, as long as borrowers were up to date on their payments. For more, see here.
2 The exception is ‘in specie’ transfers, which is when your investments can be transferred directly into a Vanguard account. This is only possible with your if you already invest in Vanguard funds through another provider. See here for more.
3 ISA and general account transfers usually take up to 30 business days. Sometimes it can take longer, depending on your existing provider. Pension transfers can take as little as 10 business days. Some providers need to see signed paperwork before transferring. If your provider requires signed paperwork, then the transfer could take 8 to 10 weeks, but it can sometimes take longer.
Investment risk information
The value of investments, and the income from them, may fall or rise and investors may get back less than they invested.
An investment in a money market fund is not a guaranteed investment. An investment in a money market fund is different from an investment in deposits, as the amount invested in a money market fund is capable of fluctuation. Money market funds do not rely on external support for guaranteeing the liquidity of the money market fund or stabilising the Net Asset Value per share. The risk of loss of the amount invested shall be borne by the investor.
For further information on risks please see the “Risk Factors” section of the prospectus on our website.
If you have any questions related to your investment decision or the suitability or appropriateness for you of the product[s] described in this document, please contact your financial adviser.
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