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The FSA does not anticipate that borrowers on tracker mortgages could end being paid by lenders even if the Bank rate falls to 0%.

Katherine Webster head of FSA’s unfair contracts legal team was adressing  issues for mortgage lenders earlier this month and stated  that individual contract terms would determine the outcome. But the view of the FSA was that they saw it was   unlikely that  lenders would start paying the borrower on tracker rate mortgages.

In today’s  unusual market conditions, the reality is that the Bank rate no longer reflects lenders’ funding costs.

Wholesale funding markets are  still closed as banks no longer wis to lend to each other so lenders are relying heavily on retail deposits and need to maintain savings rates that are attractive enough to deliver a flow of funds that they now require. In addition the lenders also have costs involved of administering their mortgage and savings products and running their businesses in  general.

With Bank rates falling to such historically low levels , margins for deposit-taking lenders come under pressure. There is a risk of unpredictable savings trends, which could affect future lending.

Lenders try protect themselves in exceptional circumstances.  They often apply a collar to tracker mortgages, below which the rate paid by the borrower will no longer be adjusted to the Bank rate. It is important to understand that lenders may only be able to offer attractively priced products for “normal” market conditions if they are able to hedge against volatile market conditions.

Collars are a normal form ofprotection for lenders – just as, in the different circumstances of rising interest rates, capped mortgages provide sensible protection for borrowers from higher mortgage costs. When rates are rising, customers choose capped mortgages for precisely those reasons.

Borrowers on tracker mortgages that may have reached their floors are now paying very low rates historically. With house prices declining, borrowers should consider taking advantage of these lower rates to over-pay their mortgages, depending on their individual circumstances. Similarly, borrowers with interest-only loans could take advantage by switching to a capital repayment option.

The FSA acknowledges that collars are acceptable if they are clearly explained in the sales process when a mortgage is applied for.

Tracker mortgages without collars that leave borrowers paying little or no interest will please those mortgage costomers  that do benefit, but do nothing to increase the flow of new lending or help stabilise the housing market and the wider economy.

It could be argued that a collar across the whole mortgage market would enable savings rates to be maintained more effectively at levels that would continue to attract new funds and maintain stability in the market for retail deposits. Clearly, however, that could only happen if the government and regulatory authorities agreed that it was fair and appropriate given the prevailing market conditions.