A mortgage is a loan you take out from a mortgage lender to help pay for a property. If you don't repay the loan as agreed, the lender can take possession of the property and sell it to recoup the money you owe.
Mortgages are one of the largest single transactions in most people's lives. Buying a property can be a stressful and time consuming experience, although nowadays the financing of a mortgage is a case of finding and selecting the most suitable deal, rather than simply accepting a lender's offer.
Numerous banks, building societies, and smaller niche lenders compete for your business, all offering a variety of interest rate deals, associated fees and other enhancements to attract borrowers. What you need to undertand is that the mortgage is made up of two elements:
When you take out a mortgage, you undertake to pay back the original sum you borrowed - known as the capital - plus interest.
There are lots of different names for mortgages but the two main types are:
The names reflect the way in which you pay for your loan and are described below:
Repayment Mortgage (also known as Capital and Interest Mortgages)
With a repayment mortgage, your monthly repayments consist of both interest and capital. This means that, over time, the amount of money you actually owe will decrease. As you pay your mortgage every month, you're paying off a bit of capital and a bit of interest until the full debt is repaid. This traditional type of mortgage remains the only way the property is actually guaranteed to be yours at the end of the mortgage term - provided you have repaid the loan on time and in full.
You usually pay off mostly interest in the early years and then gradually more of the capital debt. It may seem as if this is costing more but that's because, unlike the other types of mortgages, you're paying off the capital and not just the interest.
As their name suggests, with an interest-only mortgage, the monthly payment includes only this element of the debt. The upside of this is that the monthly cost can be considerably lower than for a comparable repayment mortgage. The downside is that at the end of the mortgage term you still owe the original amount you borrowed as you've only repaid the interest on the amount borrowed and not the capital. If you can't repay it, your mortgage lender is perfectly entitled to repossess your home. Therefore you will need to organise a way to repay the capital debt with some kind of investment policy to ensure you can save up enough to repay the loan at the end of the term.
Traditionally the preferred product for repaying the capital of an interest only mortgage was a mortgage endowment policy (which included a set amount of life cover) - although more recently customers are using Individual Savings Accounts and pensions to build up a sufficient sum and taking advantage of the tax breaks offered by these products. But, beware! No matter what anyone tells you, no investment is guaranteed to provide the cash you need to clear your debt - even another property could lose value if the market drops.
Interest only mortgages are rarely available now for residential mortgages. Most lenders will not lend to you unless you have a repayment vehicle already in place. Interest only mortgages are still widely available when arranged on a buy to let property.
Rates and Fees
The two most significant things about any mortgage are:
The interest is the amount the mortgage lender charges for lending you the money. The lower the interest rate, the less money you have to pay back over the mortgage term. Fees are anything the mortgage lender may charge you for taking taking out their mortgage product. Lenders can charge a range of fees to set up and operate your loan, and it's important to take these into account too when you're choosing a deal. We can easily show you what impact these have on your monthly payments and take all of these things into account when advising you on your mortgage product.