The gap in cost between a two-year and five-year fixed-rate mortgage is now at its narrowest for two years.
New data from Moneyfacts shows how uncertainty about the future of mortgage rates has resulted in lenders adopting a cautious approach to pricing.
Read on to discover the main differences between two-year and five-year fixes, and the factors to consider before choosing a fixed term.
Please note that the information in this article is for information purposes only and does not constitute advice. Please refer to the particular terms and conditions of a provider before committing to any financial products.
Gap in cost between two and five-year fixes narrows
If you’re buying a home or are due to remortgage, you’ll likely be considering a two or five-year fixed-rate deal.
The relationship between the cost of these deals has changed significantly in recent years.
When overall mortgage rates are very low, five-year fixes tend to be more expensive, with lenders charging a premium to lock in a cheap rate for longer.
However, when rates are high, two-year fixes are usually more expensive, with borrowers paying more for the freedom to switch sooner if rates drop.
Figures from Moneyfacts released this week show the gap in the average cost of the two types of deal is now at its narrowest since January 2023, at just 0.23%.
This comes amid uncertainty about how quickly the Bank of England will reduce its base rate in 2025, which will have an impact on the future of mortgage rates.
When will mortgage rates fall?
Nicholas Mendes of the mortgage broker John Charcol says:
‘The fixed-rate mortgage market is navigating uncertain territory. Over the past week, some lenders have raised rates in response to rising Swap rates, while others have held off, possibly to avoid unsettling borrowers.
‘Looking ahead, it is likely that rates on two-year and five-year fixes will remain broadly stable, albeit with slight increases in the most competitive deals.
‘At present, the prospect of sub-4% rates returning seems remote unless there is a significant shift in monetary policy or market conditions. Borrowers should be prepared for rates to stay above this level for the foreseeable future.’
What are the cheapest rates currently available?
Moneyfacts data shows two-year fixes remain the most popular type of mortgage with borrowers, despite them currently having higher rates.
Average rates are useful as an indication of what’s happening in the market, but the best rates vary significantly depending on the size of your deposit.
Depending on your loan-to-value (LTV) ratio, the market-leading rates for a two-year fix range from 4.2% to 5.3%. For a five-year fix they range from 4.1 to 5.1%.
When choosing a mortgage, it’s important to consider not just the rate but also any associated fees. Up-front fees of £1,000 or more can sometimes mean a deal with a lower initial rate can end up being more expensive than a deal with a higher rate but no fee.
Using a mortgage broker can be a good way to avoid pitfalls when comparing deals, as they will analyse rates, fees and incentives to find you the right loan.
Find out more: best mortgage deals for January 2024
How does the fixed term impact repayments?
To give you a guide to how different rates affect your repayments, we’ve worked out the estimated monthly costs of the cheapest two-year and five year fixed-rate mortgage at three LTV levels.
Our calculations assume you’re borrowing £250,000 over a 25-year term.
Using this scenario, a two-year fix is around £15-£19 a month more expensive at 60% and 75% LTV, reflecting how closely rates are bunched together.
However, the difference jumps to over £120 for a mortgage at 85% LTV, meaning borrowers with smaller deposits are currently facing more volatility in rates.
Is it worth fixing for longer?
David Hollingworth of the mortgage broker L&C Mortgages says:
‘We’ve seen more customers opt for shorter-term deals in recent years, despite rates being higher. That was driven by the hope that rates would ease back over time and give borrowers the chance to review again after a couple of years.
‘There’s no guarantee that is how things will pan out, and there remains a good deal of uncertainty about how quickly the Bank of England will be able to cut rates. This has resulted in five-year deals gaining ground again.
‘It’s important to recognise that lenders offer a broad range of options, and it can be possible to fix for an in-between period of three years, or for a longer term. More lenders now offer 10-year fixes, and some have the option to fix for the life of the mortgage.’
Choosing a mortgage term: things to consider
Your future plans
If you move home during your fixed term, you’re likely to face early repayment charges (ERCs). These are calculated as a percentage of your remaining mortgage balance, and can amount to thousands of pounds.
Most providers allow you to ‘port’ your mortgage to another home, but this process isn’t always cost-effective and can require you to meet specific criteria.
If you’re due to remortgage but are thinking of moving house soon, it may be wise to choose a shorter-term deal to give yourself the most flexibility.
Your attitude to risk
The past few years have highlighted how unpredictable the mortgage market can be.
As a result, some homeowners may feel more secure opting for a longer fixed term, knowing their mortgage payments will remain stable throughout the period.
However, if you’re comfortable taking on the risk of a shorter term in the hope rates drop, a two-year fix will give you the ability to start searching for a new deal in just 18 months.
See our remortgaging guide for more detailed information on the process of switching mortgage, including how your property is valued and the fees involved.
Is a three-year fix worth considering?
If you’re unsure about how long to lock in your rate for, it may be worth looking into three-year deals.
Rates usually fall between those available on two and five-year fixes. The main drawback is the limited number of products available. When we checked, there were only 539 three-year fixed-rate mortgage products on the market.
In comparison, there were approximately 1,900 two-year products and 2,400 five-year options.
While a three-year fix might be worth considering to split the difference between short and long-term deals, the wider range of options with two and five-year fixes means you may be more likely to find a product that suits your individual needs.
When to think about remortgaging
- If you’re in the last six months of your fixed term: start searching for a new deal. You can get a quote from your existing lender, but you may be able to get a better rate by contacting a mortgage broker, who can search the whole market for the best deal.
- If you’ve got more than six months left on your fixed term: it’s not time to think about remortgaging just yet. You’ll need to pay ERCs if you switch deals mid-term.
- You’re on a standard variable rate (SVR) mortgage: it’s likely that you’re paying more than you need to. Lender SVRs currently average just below 8%. If you’re able to switch to another deal, do so as soon as you can.