A Guide To Mortgages

Home Buying

What type of mortgage deal suits you best? There are a confusing range of mortgages available on the market today. All any of us need is a simple, straightforward mortgage which will pay off the loan after the repayment term.

Many people have been caught out over recent years and are now facing massive shortfalls on their mortgages. The worst case scenario being that the property has to be sold in order to pay off the outstanding sum.

Here are a few basics which should help you make the decision as to which type of mortgage deal will suit your circumstances best.
In essence mortgages should be straightforward and simple to understand. You borrow money to buy a house and repay the loan with interest over a fixed period of time. Like all things, it is never as simple as that. There is a constant push by banks and building societies to offer the newest and most attractive range of mortgages in what is an extremely competitive market. To this end they are continually updating and extending their range of mortgages.

So how do you keep pace with the mortgage market today?
Firstly you will need to understand the basic principles and types of mortgage available.
The most important considerations will be how you pay back the capital you borrow and how you pay the interest on it.
Essentially, there are two basics ways to pay off your mortgage. Either, pay back a proportion of the capital sum as well as the accrued interest at the same time with regular monthly repayments, (a repayment mortgage) or only pay the interest over an agreed time period, paying off the capitol sum in one lump at the end of the mortgage ( an endowment, ISA or pension mortgage).

With a Repayment Mortgage, your monthly payment pays off a little of the capitol sum borrowed as well as interest on the loan. The amount that you pay each month is calculated so that at the end of the term the mortgage is cleared.

An Endowment Mortgage is linked to an endowment policy which provides life insurance and an investment sum which should give a sufficient return to save enough money to repay the loan at the end of the term. The term can be varied but is usually 20-25 years. However, there is no guarantee that the policy will ever accrue enough funds to pay off the mortgage at the end of the loan period. If the investment performs badly, you could face a shortfall on your loan at the end of the mortgage. If you intend to sell the property on at the end of the mortgage term, this could be a cheaper way of financing your loan. An example of this could be for a 'buy to let' mortgage where the investment might not be so long term and the mortgage is not for the family home.

An ISA or Individual Savings Account is similar to an endowment mortgage in that it works on the same investment principal. Here the ISA is used for the loan repayment when the mortgage term is complete. Once again, there is no guaranteed sum at the end of it. If your investment performs badly you could face a shortfall at the end of the mortgage term.

Similar to both ISA and endowment mortgages, Pension Mortgages work on the basis that your pension (this can be either a private or company pension) will provide tax-free lump sum payment on your retirement. At the end of the mortgage term the loan is paid out of this tax-free lump sum. This type of mortgage is not widely used particularly as you may not want to risk linking your pension to your mortgage.

There are various ways to determine how you want to pay the interest on your mortgage. There are a range of options that are available to you.
A variable interest rate mortgage means that you will have to pay the current interest rate on your loan. Interest rates vary, therefore so will the amount you pay back at any time. Your mortgage repayment will change in line with any rise or fall in interest rates.
whereas the overall effect of any interest rate changes was calculated once a year and payments are altered accordingly, nowadays mortgage providers will change your payment to reflect the current rate of interest immediately. Even if you start with a 'low cost' fixed rate mortgage, it is probable that it will be converted to a variable rate after an agreed fixed period.

With a Fixed Rate Mortgage, the interest rate is fixed for an agreed period. This is likely to be between two and five years. This type of mortgage is good for budgeting or if you believe that interest rates might increase over the agreed period. However, you will not benefit if interest rates should fall. If you wish to end the mortgage during the fixed period, it is likely that you will face penalties. Fixed rate mortgages often offer low interest rates to tempt you in the first instance, but you could end up paying over the odds for your mortgage. Many people switch mortgage lenders at the end of a low rate fixed period to another lender offering a similar product for another fixed period. In this way it may be possible to maintain your low cost mortgage over a longer period. You must however, take into account any incurred costs for the necessary administration. Be aware that penalty periods will differ from one mortgage product to another.

A Capped Rate Mortgage fixes the upper rate of interest payable. If interest rates fall however, so do your payments. These mortgages can be a good buy for budgeting.
Some mortgage lenders will offer an incentive such as a cash back deals. The lender offers you a cash sum back for taking out a particular product. This can be good if you need cash for renovations etc. However, there is no such thing as a free lunch - your mortgage lender will probably claw this sum back over time. With a discount rate mortgage the borrower is offered a discount off the lender's variable rate. The rate paid will be aligned with any changes in the variable rate. The discount will normally apply over a set term.

The top ten recommended questions you should answer before taking on a mortgage are as follows:

  1. How much can I afford to borrow?
  2. What is the best type of mortgage for me?
  3. How can I tell which mortgage rate is best for me?
  4. Can I make lump sum payments to reduce the size of the loan?
  5. Are there any redemption penalties?
  6. Does this mortgage come with compulsory insurance?
  7. What other charges will I have to pay?
  8. How should I repay it?
  9. What happens if I can't pay?
  10. What about the small print?

Other things you should ask yourself are:

  • What will the cost be each month?
  • What fees will I have to pay?
  • What do fixed rate, variable rate, discounted or low-start, and flexible mean?
  • Will this mortgage suit my circumstances now and in the future?

If you are dealing with a broker you should also ask:

  • Why are you trying to sell me an endowment policy, or a pension or an ISA?
  • Why is this type of mortgage best for my circumstances?
  • And what commission are you being paid?

Of course, sorting out the mortgage is he easy bit. The hard part is finding the right property in the first place!

Good luck.

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