For almost everyone, a mortgage is the largest loan they will ever take out. The price of buying a home is often more than a quarter of our lifetime earnings, and significantly more when mortgage interest is accounted for. While it’s usually possible to remortgage if our original deal doesn’t look so great any more, this doesn’t take away from the importance of getting it right the first time. After all finding a mortgage lender is a stressful process, which often involves one time fees and even rejections before a mortgage provider willing to fund your home purchase is found.
What is a mortgage?
A mortgage is a type of loan issued to purchase a property, usually by a bank or building society. The property can be new or old, a house or flat, mansion or studio. The majority of home purchases are made with one, as few people have the savings required the purchase their own home outright until they have built up equity by paying down a mortgage over a number of years. Unlike personal loans which are usually taken out between one and seven years, or payday loans which typically last up to a single month, a mortgage can last the majority of a lifetime. Fifteen, twenty five and thirty five year mortgages are common.
Interest only vs Repayment
While other forms of loans tend to be broadly similar, mortgages come in almost as many types as there are commercial lenders on the market. The first decision to make is if you want a repayment mortgage or an interest only mortgage. In most cases a repayment mortgage is the best option as interest only mortgages will leave you owing the lender the full price of your purchase when the loan expires. However interest only options can have benefits if you feel the lower monthly payments could lead you to invest in profitable ventures. Today few banks issue interest only mortgages to all but the wealthy due to the increased risks associated with this form of lending.
Fixed vs Variable
The second decision is whether you want a fixed rate mortgage, or one with a variable rate. Most fixed rate mortgages turn into variable rate mortgages at the end of a fixed term, which is usually between two and five years. Variable rate mortgages don’t mean that the lender can suddenly decide to hike up your rate, they simply refer to the Bank of England Base Rate which is the interest the bank itself pays to lend money from the government-linked Bank of England. Taking our a fixed rate is like placing a bet that the Bank of England Base Rate will rise, and therefore the increased rate charged for a fixed-rate mortgage will be less than what would be paid on a variable mortgage after an interest rate rise.
As we’re not all armchair economics, and probably don’t know better than bank experts, the main reason fixed rate mortgages are taken out however is more about ensuring that costs stay constant so we can better plan our lives. For instance if you are at the start of your career and take our a mortgage that takes up much of your wage, you might not want the rate to increase for several years so that you are not pressured into finding a better paid job if rates increase.