Barclays changes penalties: A new redemption system will cost some borrowers more

BARCLAYS Bank is introducing a new system of penalties for borrowers who redeem fixed mortgages that could leave many of them paying far more if they switch to cheaper long-term rates.

The bank admits that the move has been largely determined by 'business' considerations, namely the losses it has faced in the past year, when many fixed-rate mortgages have been redeemed early.

But Barclays argues it will also benefit those who may want greater security by taking up a new, long-term fix at current rates rather than wait until their current fix runs out, by which time rates may be higher. They will no longer have to pay a flat-fee penalty, unlike at present.

However, borrowers could end up paying much more in redemption penalties, especially those with longer-term fixed mortgages, at a time when interest rates fall quickly, which has been the pattern over the past three years.

Garry Skelton, head of mortgages at Barclays, said: 'The key point for borrowers is that the decision to take out a mortgage should be based on what you can afford and your own plans and needs. It should not be an attempt to beat the money markets.'

Barclays' new system is based on a complicated equation in which the penalty is based on a calculation involving the existing fixed-interest loan, the number of years outstanding on it and any new fixed rates available for the remainder of the term.

In one hypothetical example given by the bank, a couple with two years left to run on a pounds 40,000 mortgage fixed for five years at 7.5 per cent would pay pounds 392 if the new two-year rate were 7 per cent.

This compares with Barclays' present redemption penalty of five months' interest on a five-year fixed mortgage. Under the present system that redemption would cost pounds 1,250.

However, had the new system been in operation over the past three years, the picture would have been vastly different. A person redeeming an 11.5 per cent five-year fixed loan agreed in 1991 could obtain a two-year loan today at 6.95 per cent. Under the current system the five-month redemption penalty would cost about pounds 1,900. Redeeming a pounds 40,000 loan under the new system would cost more than pounds 3,500.

Redemption penalties on seven-year, 10-year and longer- term fixed mortgages would be even higher.

The new system will be launched with a fresh fixed- rate mortgage after Easter.

All future borrowers will have the options and potential costs of early redemptions under the new system explained to them when they apply. Mr Skelton said: 'Customers have benefited from the certainty provided by a fixed-rate mortgage. As lenders, we have no such certainty, as we can never predict how many, or when, customers will want to redeem their mortgages.

'Variable early redemption interest is a more equitable way of charging because it is based on the current state of the market, rather than a flat fee, based on our best estimate of future market conditions.'

Mr Skelton admitted that one reason for the change had been the losses incurred by Barclays' mortgage division. He declined to give figures, but said about 7 per cent in value terms of the bank's pounds 13bn mortgage book switched to lower interest rates last year.

In common with all lenders, Barclays borrows its fixed-interest mortgage money from the futures markets. The price it pays is set over that fixed period.

When people redeem their fixed mortgages early because new rates are more attractive, lenders lose because they cannot dispose of the old - and now unattractive - money.

Efforts to curb such switching have led to penalties of several months' interest being levied. But they have not been as powerful a disincentive when interest rates tumble swiftly.

Mr Skelton said: 'We believe that other lenders will be looking for a more equitable redemption calculation method. Barclays' move gives us a significant competitive advantage and is a further commitment to customer service.'

Nick Deutsch, managing director of First Mortgage Securities, said: 'I think what Barclays is doing is a natural move.

'In many ways, I hope they succeed. But if other mortgage lenders don't follow in their footsteps, they cannot claim to be more competitive.'

A spokeswoman for Halifax Building Society said Halifax had no plans to alter its existing redemption penalty system, which is based on a number of months' interest, depending on the length of the mortgage.

Anne Gunther, controller of mortgage services at National Westminster Bank, said: 'We operate a system of roughly charging one month per year of the outstanding fixed-rate loan.

'We have reviewed it regularly over the past year or so but have decided that it was not equitable because a customer would not know what the interest rate might be in the future, and therefore what he might be liable to pay,' she said.