Will some mortgages pay interest?

By Ian Pollock
Personal finance reporter, BBC News

Mortgages taken out 18 months ago could become unexpectedly attractive

The latest fall in interest rates, and its knock-on effect on mortgage rates, has raised the interesting possibility that some lenders may soon have to start paying interest to some of their mortgage customers.

These are the ones who, in the course of 2007 and even into last year, took out tracker deals that specified the interest rate would be at a margin below the Bank of England's base rate.

These were sold as loss leaders at a time when lenders were still throwing money around to attract new customers.

"The deals were incredibly popular; people snapped them up, they could see they were a good deal," says Andrew Montlake of mortgage brokers Cobalt Capital.

Refunds

In July 2007, just before the credit crunch kicked in, there were 83 such deals on offer from 33 different lenders.

The likelihood of repayments happening in a great number of cases is low as many such deals lasted for only a short period of time Paul Broadhead, Building Societies Association

Some were set at just 0.01% below bank rate, many were at 0.25% below, but others were much more generous.

The Abbey had one deal tracking 1% below bank rate, while the Cheltenham & Gloucester, part of Lloyds TSB, had one mortgage offer at 1.01% below bank rate.

With the possibility that the bank rate may soon fall to 1%, or even lower, some people who took out these deals may think their interest rate could soon turn negative.

And that would mean a monthly refund on their interest payments.

The issue is not clear cut though.

Paul Broadhead of the Building Societies Association (BSA) says it might all depend on what the mortgage contract says.

"It is a possibility, but it depends on the terms and conditions," he says.

"Some deals have conditions that set an absolute floor below which the interest rate will not fall.

"But the likelihood of repayments happening in a great number of cases is low as many such deals lasted for only a short period of time," he points out.

Ridiculous

Typically, these tracker deals were sold with the discount to the bank rate lasting for just two years, and in a few cases three years.

Interest repayments may last for only a few months

So some of these deals may be expiring in the next few months anyway.

Even so, not all deals ruled out interest rate refunds.

"Very few had a floor written in - not many stipulated there was one at all," says Andrew Montlake.

And he says lenders are keeping their heads down on the subject.

"I have spoken to a few lenders about this and none are saying what they will do."

One, the Cheltenham & Gloucester, has in fact said it will not make any refunds because the wording of its contracts is all about the customers paying the lender, not the other way around.

Bernard Clarke at the Council of Mortgage Lenders (CML) is sympathetic to that view.

"What has been said by some lenders is that there is nothing in the contracts about interest ever being repaid to customers," he says.

"It seems ridiculous that someone should be paid for taking out a loan," he adds.

Key facts

But what if the contract is silent on the possibility of the bank rate falling so low that interest repayments are triggered to the borrower?

Many have a clause in the small print but I don't think that they will stand up if they were not shown in the key facts when the mortgage was arranged Ray Boulger , John Charcol

If the paperwork says the interest payments will track below bank rate, customers are likely to feel that is what it should do, even if bank rate falls to 0%.

The regulator, the Financial Services Authority (FSA), has been pondering this, but so far has not decided on a definite policy as no lenders or borrowers have yet reached this intriguing position.

"Mortgage floors can be legitimate but the key is what does the contract say, and how clearly and unambiguously is that disclosed to the customer?" says a spokesman.

"The issue will have to be thought through by the lending institutions."

Ray Boulger of mortgage brokers John Charcol is sceptical that many lenders will be able to rely on their paperwork to fend off customers.

"Many have a clause in the small print but I don't think that they will stand up if they were not shown in the key facts when the mortgage was arranged," he argues.