What are the best Irish mortgage rates? What are interest rates and where do they come from? These are all good questions and in today’s post I hope to answer some of them.

Often I find that people call me and ask ‘what’s the best rate’ and then there is silence on the other end of the phone as they await an answer. The truth is that at any given time there is a ‘best mortgage rate’ out there, but normally there are restrictions surrounding it which inhibit the ability for most borrowers to avail of them.

We have come out of eight rate hikes which began at the end of 2005, and in an upward rate market people often feel that their old loan has become expensive, in fact it’s not necessarily the case that the ‘old loan’ is exceptionally dear, its that the rate market has gone up and therefore the cost of all loans has gone up, when we talk about the greater ‘debt burden’ that’s what we are referring to, because car loans, higher purchase, leases, credit cards and personal loans all get more expensive as well.

From 2003 until almost 2006 the ECB base rate was 2%, this to a degree was part of what helped create a property bubble as the purchase of property (minus the prohibitive Irish taxation system – high stamp duty etc) and the repayment of mortgage debt suddenly became very affordable. The people who took mortgages out at that time now are talking about how high rates have gotten, actually a base rate of 4-5% is considered healthy, the 2% base, which was a historic low was only there to stimulate the economy, and that it did, right into the current recession.

If we go back a little further to the start of September 2001, the base rate was 3.75%, right before 9/11. If you took out a loan on a 5 year fixed rate (and we have countless customers who did just that) then you would have only come out of that fixed rate as the 8 rate hikes in the ECB kicked in. So for these people rates are not now ‘high’ they are the same as they alwasy were for the most part, the point of what has been said so far is that rates and whether they are high or low is a very subjective matter. For our older readers who had mortgages in the 80’s rates are still insanely low, the younger readers who got on the property-ladder in 2003 likely feel they are at dizzy heights.

Things in the Irish mortgage market have changed a good deal in the last five years, the introduction of Tracker Mortgages (famously used in the Financial Regulator ad where the man says ‘I don’t know what a tracker mortgage is!) and in LTV (loan to value – this is always expressed as a % and you get it by dividing the mortgage by the property price) restrictions as well as key underwriting approaches meant we came from a simplified market into a fairly complex one relatively fast. For that reason alone it has never been more important to have an independent mortgage broker on your side, and for that very reason mortgage brokering firms have sprouted up all over the country, that and of course the fact that there was a property boom on!

Do you know what a tracker mortgage is? If not then you are among the countless people who don’t/didn’t and that was precisely what the Regulators advertisement was about, it was cheesy but true. Tracker mortgages were a new development where lenders would offer a loan at a fixed margin above the ECB for the life of the loan, this is a much more transparent and easily understood concept than are Variable rates, variable rates are for the most part decided by the bank, and that was one reason why they are dying off so fast.

In 2003 AIB had almost 90% of its mortgage book on variable rates, that figure for 2008 is not yet accessible but you can be certain that it has come down quite a way because trackers are offering value above and beyond what variables do. Until recently the worst tracker rates were better than the best variable rates. So there was no incentive to stay on a variable rate. The credit crunch of 2007-2008 (and it ain’t over yet!) has exposed a fundamental flaw in the banking system here, because trackers are almost exclusively calculated on the ECB base rate and not the actual interbank rate that most banks obtain their funding on. The Euribor (European inter bank ordinary rate) has risen in value and at one stage it was almost 5% a full 1% above the base rate! This might sound like a big nothing but when you are moving literally billions through the market and paying that kind of money, only to lend it out at less than that then its not long until a few hundred million in losses will filter through.

Don’t get it? O.k. banks are lending out tracker mortgages calculated on the base rate which is currently 4%, and the fixed margin above that is (for instance) 0.8% giving you a tracker rate of 4.8% – until such time as rates go up or down and the rate will follow accordingly. But the interbank market was pinched and banks would not lend each-other money because they were afraid of credit risk a bank they would lend to might have due to exposure to the sub-prime market in the USA or they wanted to hoard cash because they had problems themselves and may need to survive a bank run. This short term interest rate compression meant that banks were buying money at (getting back to the example) 4.9% and then lending it out at 4.8%. that 0.1% loss also has to cover procurement costs, staff, operations etc. so it was becoming more like a 0.3% loss which is €30,000 for every million lent and if you are in the top sector of Irish banks doing at least 5 billion in retail lending a year that would be a negative €300,000,000. It gets stupid fast.

Banks are responding by looking at cutting mortgage broker commissions, this will hurt the broker and the customer the most because we will likely move to an environment where you will have to pay to get independent advice whereas currently that is not the case. They are also closing down (two Irish lenders have closed their doors so far), and laying off staff. Its not pretty, imagine waking up one morning and being told you are either fired, or you can do the same job for 60% of your current pay and if we don’t like how it went in three years we will take the money you got back. If you relish that thought then become a broker. Banks have come up with mean solutions to an ugly situation but I guess it’s important to remember what Mark Twain said ‘banks give you an umbrella when it shines and take it back when it rains’.

So on your search for the holy grail of the ‘best rates’ it will be good if you have at least some understanding of the points mentioned above. It’s important to remember that at any given time there are great rates, but only in comparison to what’s available at that time, you can’t compare rates from three years ago to interest rates today. Every time rates change the whole landscape of structured finance changes with it.

One thing that doesn’t happen in Ireland that does happen in other countries is ‘buying a mortgage’ from a seller. So if you were buying a home (we’ll say in this example its for €300,000) and the seller has a mortgage on a 5 year fixed rate that they took out in the start of 2006 and its costing 3.5% and it has €250,000 remaining on it then you could simply take that loan from them and you honour their debt while at the same time getting a mortgage price on the bulk of the property that is better than what is available on the open market. Naturally banks don’t want to do this because they quote fixed rates and charge you redemption penalties for breaking them but not 100% of the money is bought on the first day at the fixed rate price.

I’ll clear that up, when you get a fixed rate for (example) 5 years, the bank will buy that money on the 5 year money market, and they base their price on the 5 year rates, in fact if you redeem your loan early when you are on a fixed rate the consumer credit act doesn’t protect you, you may have to pay a redemption penalty, but what normally happens is that only a portion is bought on the 5 year market and another portion is bought on the short term market because long fixed rates are always higher than short term rates for borrowers, but not necessarily for banks, right now three year money is cheaper than three month money! Anyways, a bank will take some of the money from the short term market depending on the rate outlook and depending on what that is they will then make an extra profit from your loan.

Take an example of having done this in 2003, a five year fixed may have been 4%, so you sign into a contract but where and how the bank obtain the money isn’t really any of your business, only that they honour their rate. So if they bought (we’ll use €300,000 again as the example) €150k on the actual 5 year market and 150k on the short term market (it would have been around 2.1%) then there is a 1.9% margin until such time as the base rate or Euribor pass 4%. That’s making money in a market where rates went up, if rates go down then its even better because they get a bigger margin. Its fair and contractual so don’t feel hard done by, its just the way the industry works.

At this point if you are not already asleep I hope it’s apparent that getting the best rate mortgage on the market is not a possibility for everybody, as well as that you need to consider some of the pros and con’s of different rates, for instance breaking fixed rates has a penalty, breaking a tracker rate does not. A good way to end this article is to tell you what I do with my own finances.

Typically banks have preferential rates for new business (they don’t reward loyalty!) so when I take out a new loan, switch my existing one (which I won’t for some time as I got a really good deal on it) or refinance it will often be to a new business preferential rate, and then of those rates I normally take the cheapest which tends to be the one year fixed rate, I figure that after a year of what will hopefully be good value I can then take my pick of whatever is out there on the market at that point. It is simple, and has worked so far, granted if I was truly focused on just my mortgage I could have saved more but most of our time is spent helping others, I guess the best analogy is that I’m like a chef who doesn’t cook at home or something. A carpenter friend of mine summed it up the best ‘it’s always the way, sure my kitchen is in bits!’. Not too profound but also not a lie!