When choosing a mortgage, one of the critical decisions you’ll face is how to handle the arrangement fee—a charge that can significantly impact the overall cost of your loan. Should you pay it upfront, add it to your mortgage balance, or opt for a no-fee product with a higher interest rate?
Each option comes with its pros and cons, and understanding how it aligns with your financial situation and long-term goals is crucial. This guide will break down your options and help you make the most informed choice.
What is an Arrangement Fee?
An arrangement fee, sometimes called a product fee, is a cost that lenders charge for accessing specific mortgage products. It is especially common with fixed-rate and tracker mortgages, helping lenders tailor competitive interest rates for borrowers.
- Range: Fees typically range from £500 to £2,500, depending on the mortgage product.
- Purpose: The fee allows lenders to offer lower interest rates for fee-based products, while no-fee products often come with higher interest rates.
When selecting a mortgage, you’ll need to decide how to handle this fee: pay it upfront, add it to the mortgage, or opt for a no-fee product with a slightly higher rate.
Options for Handling the Arrangement Fee
1. Pay the Fee Upfront
Paying the arrangement fee upfront ensures it does not accrue interest over time.
Advantages:
- Avoids long-term interest on the fee.
- Keeps the mortgage balance lower.
- Leaves the Loan-to-Value (LTV) unaffected.
Disadvantages:
- Requires liquid cash at the application or completion stage.
- Can deplete savings or emergency funds.
2. Add the Fee to the Mortgage
Adding the fee to your mortgage rolls it into your loan balance, increasing the amount you borrow.
Advantages:
- Reduces the need for upfront cash.
- Provides flexibility for those with limited savings.
Disadvantages:
- Increases the total loan amount and interest costs over time.
- Can push your LTV into a higher bracket, potentially affecting your eligibility for better rates.
3. Opt for a No-Fee Product
Some lenders offer no-fee products with slightly higher interest rates, allowing you to avoid upfront or added fees.
Advantages:
- No upfront costs.
- Simpler mortgage structure without added fees.
Disadvantages:
- Higher monthly payments due to the elevated interest rate.
- May cost more over the mortgage term, depending on the loan size and duration.
4. Add the Fee and Pay It Off Immediately After Completion
This hybrid option involves adding the fee to the mortgage temporarily but paying it off within a few months to avoid long-term interest.
Advantages:
- Requires less cash at completion.
- Minimises interest costs compared to leaving the fee in the mortgage long-term.
Disadvantages:
- Requires access to cash reserves shortly after completion.
Gross Loan vs. Net Loan
Understanding the difference between gross and net loan amounts is essential when considering how to pay the arrangement fee:
- Gross Loan: The total loan amount, including the arrangement fee if added.
- Net Loan: The actual amount borrowed for the property purchase, excluding fees.
For example:
- Property Price: £200,000
- Deposit: £50,000
- Arrangement Fee: £1,000
If you pay the fee upfront, the gross and net loan will both be £150,000.
If you add the fee to the mortgage, the net loan remains £150,000, but the gross loan increases to £151,000, with interest accruing on the added fee.
Comparing Fee-Based vs. No-Fee Products
To decide between fee-based and no-fee products, consider the long-term cost implications. For example:
Scenario:
- Mortgage Amount: £200,000
- Term: 25 years
- Fee-Based Product: 3.5% interest, £1,000 fee
- No-Fee Product: 3.7% interest, no fee
Over a five-year fixed term, the no-fee product may appear cheaper for smaller mortgages, but the higher interest rate could make it more expensive if you keep the mortgage beyond the initial fixed period.
Adding Fees Over Multiple Remortgage Cycles
If you remortgage every few years and add the arrangement fee each time, the costs can compound significantly. For example:
- Initial Mortgage: £200,000
- Term: 25 years
- Remortgage Every 5 Years: £1,000 fee added each time
- Interest Rate: 3.5%
Adding fees repeatedly increases your total mortgage costs. Paying fees upfront or opting for no-fee products can mitigate these expenses over time.
When to Pay Upfront vs. Add Fees
Pay Upfront If:
- You have sufficient savings and can pay without depleting your emergency fund.
- You plan to keep the mortgage for the full term or beyond the fixed-rate period.
- Adding the fee would push your LTV into a higher bracket, affecting your interest rate.
Add to the Mortgage If:
- You lack the cash to pay upfront.
- You plan to remortgage or repay early, minimising interest accrual on the fee.
- The impact on your monthly repayments is negligible.
Practical Tips for Decision-Making
- Use a Mortgage Calculator
Compare total costs for fee-based and no-fee products over different time frames. - Consider LTV Impact
Adding fees could push your LTV higher, disqualifying you from better rates. - Evaluate Savings Impact
If paying upfront strains your savings, adding the fee to your mortgage may be a safer option.
Conclusion
Deciding whether to pay an arrangement fee upfront or add it to your mortgage depends on your financial situation, loan size, and long-term plans. Paying upfront avoids accruing interest on the fee, making it a cost-effective choice for those with sufficient savings. However, adding the fee can provide flexibility for those prioritising liquidity. For frequent remortgagers, no-fee products may be the most economical option.
By carefully considering your circumstances and using tools like mortgage calculators, you can make an informed decision that aligns with your financial goals.
Frequently Asked Questions
Q 1: Does adding the fee always cost more?
Ans: Not necessarily. If you plan to remortgage or repay early, the difference may be minimal.
Q 2: Can brokers negotiate arrangement fees?
Ans: No, arrangement fees are set by lenders. However, brokers can help compare products to find the best option for your circumstances.
Q 3: Are there fee-free mortgage products?
Ans: Yes, most lenders offer products without fees, but these often come with higher interest rates.
Q 4: What’s the best way to decide?
Ans: Compare total costs for your chosen term. A mortgage broker or calculator can help.
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