When you start searching for a mortgage because you’ve found a house that you desperately want to buy, you’ll quickly discover that mortgages aren’t quite as cut and dry as they seem. In fact, a lot of people assume that there’s only one kind of mortgage, but there are actually so many different options that the choices available to you could end up seeming overwhelming. Sure, you want to make sure that you get the best mortgage rate, but first you need to understand what the different mortgages available to you entail, and what you can do to improve your chances of a better outcome.
Here, we’re going to try and explain some of the details associated with different mortgage types on the market. The more you read, the more you will learn that there’s a lot to take into account when deciding which mortgage, you want. You should find that it helps to have a broad understanding of how mortgages can work in general before you determine the kind of mortgage you want.
How do Mortgages Work
At a basic level, all mortgages work in the same way. They’re a kind of secured loan that works against the property that you want to buy. You decide what kind of property you want to buy, and then you borrow the money to purchase that property, minus a deposit. Once you have borrowed the money, you begin to pay it back over a long-term period of usually between 25 and 40 years. Mortgages begin to get more complicated when you think about the different interest rates, the different ways that are available to repay, the options for how long you can borrow, and the special mortgages that exist for specific situations.
Let’s start our list of mortgage types with the simplest option out there, the repayment mortgage. This is the basic standard for repaying all mortgages, no matter how specialist they are, except for interest-only loans which are a completely different thing.
When it comes to this type of mortgage, each month you will be expected to pay back some of the interest that’s owed as well as some of the additional capital you have borrowed. By the end of the borrowing period, which usually lasts around 25 years, you will have paid back all of the money you owe, and you should own your home completely.
Of course, there’s always a chance that you’ll move within that time, and in those cases, you will be able to take the mortgage with you if you want to, which means that you will port your mortgage. On the other hand, you can repay the loan that you had originally and simply take out a new one. By the time you move, you could find that your home has gone up in value, and you will have paid off some of the value. That means that you can put down a larger deposit on your next home and maybe get a better mortgage.
With interest-only mortgages, you will only be expected to pay the interest owed on the amount you owe every month, while the capital is repaid at the end of the period with some money that you’ve saved in a different place. This is obviously very different from repayment mortgages, because when the end of the loan rolls around, you’ll need to find enough money to pay off the entire debt. You can save up however you want or use the money from an inheritance but you’ll need to have the cash available when the time comes for you to pay. If you can’t pay for the house at the end of the term, you may have to sell it to repay the mortgage.
Since there’s a risk that you won’t be able to pay your mortgage on time, lenders will insist that with an interest-only mortgage, you show them how you are going to pay for the loan at the end of your borrowing period. Obviously, the biggest benefit of this particular kind of mortgage is the fact that your monthly repayments will be much lower than they would be with any other mortgage, simply because you’re just paying the interest that’s due. If you find that you get nervous about being able to pay the loan off on an interest-only basis, you can switch later.
Fixed rate mortgages are a very popular form of mortgage, usually with first-time buyers. Simply put, this type of mortgage means that your mortgage rate remains fixed for a set period of years, usually between 2 and ten years. That means that you know exactly how much you need to pay every month for that length of time, regardless of what changes might occur within the interest rates of other mortgages that are on the market.
Of course, the downside of a fixed rate mortgage is that you could end up being stuck on a higher rate if the rates of mortgages in your area go down. Although there are definitely ways that you might leave your existing mortgage, there’ll be costs to pay for early exiting.
When the mortgage ends, you’ll be placed on a standard variable rate which often has a much higher interest rate than the one that you were originally paying. In this case, you will be able to apply for another deal at a fixed rate depending on what you’re interested in doing with your money. These mortgages are best for people who want to know exactly how much they need to pay each year.
Variable Rate Mortgages
Almost every lender available in the UK has an option for a standard variable rate mortgage, and this is a type of basic mortgage. The interest level moves up and down as mortgage rates change, and they are partially influenced by the base rate for the bank of England, but it’s worth noting that there are a host of other factors that can come into play too. The interest rate that you need to pay on your variable rate mortgage can change randomly without the base rate moving, and at the same time, the base rate might go down while the amount you pay on your mortgage might stay the same.
Sometimes, the original deal you can get with variable rate mortgages is cheaper, and there’s always a chance that you can benefit from a lower rate at some point of the base rate starts to fall.
Tracker mortgages move alongside a nominated or specific interest rate which is usually the England bank base rate for all mortgages. The type of mortgage rate that you pay in these cases will be a set amount of interest that arrives somewhere below or above the base rate. This means that when the base rate goes up, your mortgage rate will go up at the same level, and your rate will go down when the base rate goes down. Some lenders offer a minimum rate below which the interest will never drop, however, there is literally no limit as to how high the interest rate can go.
If you don’t think that you’ll be able to pay your mortgage if the base rate was to go up, then you should avoid a tracker mortgage or a variable rate mortgage at all costs.
Discount Mortgage Rates
The discount in discount rate mortgages is simply a deduction that is taken from the standard variable rate for the lender. Mortgages that offer discounted rates are often some of the cheapest around, but because they are linked to a standard variable rate, the rate can change rapidly as the SVR changes. The deal also only lasts for a fixed period of time between two and five years. This is good for people who want a lower than usual rate of interest, but should be able to pay more if rates go higher.
Capped rate mortgages are a form of variable mortgage that have a cap on how high your interest rate can travel. With these mortgages, you have the comfort of knowing that your repayments aren’t going to go over a certain level while you still benefits whenever the rates go down. As mortgage rates have been lower in recent years, more lenders aren’t offering capped mortgages at the moment.
A cashback mortgage is a type of mortgage-based marketing incentive that can sometimes be offered by certain lenders. When you take out this type of mortgage, they give you some kind of money back that’s usually a percentage of the loan that you’re requesting. However, it’s worth noting that this isn’t always as attractive as it seems to be in the first place. You should always check the interest rate carefully and any other fees you will have to pay, in most cases, you will find cheaper mortgages that don’t offer cashback.
Offset mortgages are connected with savings account, and they combine mortgages and savings together. Each month, the lender will examine how much you owe on the mortgage and deduct the amount that you have ins savings. You will be paying the mortgage interest on the difference between the two. For example, if you have a mortgage that’s £100,000 and you have savings of £5,000 then your interest will be calculated on the remaining amount for that month. This obviously limits the amount of interest that you need to pay. However, the mortgage rate is often more expensive than on other deals. You will still be able to access your savings, but the more you offset, the quicker you will be able to repay your mortgage. Of course, you will not earn any interest on your savings.
95% mortgages are ideal for people who can only afford a very small deposit for their home. For such as a small deposit, there’s a chance that you will end up entering negative numbers with equity if your house prices go down, as they only need to fall by 6% and you could end up having a house that’s worth less than your mortgage. Because of the level of risk that comes with these kinds of mortgages, lenders often charge a very high mortgage rate. Think carefully before you consider getting one of these mortgages, as it may be better to simply wait until you can afford a bigger deposit.
Flexible mortgages help you to get more leeway when it comes to making your regular repayments. You will be able to choose to pay in more than your standard amount in the times when you can afford it, and unlike other mortgages, if you have already overpaid on a certain amount of your mortgage, you might be able to underpay if you hit a dangerous patch in your finances. At the same time, with flexible mortgages, some people can even take payment holidays and miss months of payments depending on how much they have already overpaid into their account. However, in return for the flexibility, the mortgage rate will need to be higher than the other deals on the market.
First-Time Buyer Mortgages
First time buyers are able to apply for any of the other mortgages that are listed above, and there are also some government schemes offered by the government which can help those who are struggling to get on the property ladder.
Finally, buy to let mortgages are designed for people who are planning to let out the property that they buy rather than keeping it as a home for themselves. The amount you can borrow in these mortgages will be dependent on the amount of rent that you should be able to receive. Most of the time, first-time buyers aren’t allowed to access a buy to let mortgage. However, you can discuss your options with a mortgage broker or independent financial advisor to determine what might be available to you in your current circumstances.