Types of mortgage
There are essentially two different types of mortgage:
Every month the repayments you make with this type of mortgage will include part of the total amount of capital you have borrowed along with the accrued interest. In essence, with every payment you are paying off some of your total debt.
Advantages of a repayment mortgage:
• Assuming you have stuck to your repayment plan, once the mortgage term comes to an end you will be clear of the debt
• As you will be reducing your mortgage balance every month, and assuming your property does not fall in value, you should actually increase the equity in your house
Disadvantages of a repayment mortgage:
• Very little of the capital borrowed is paid off in the early years of a repayment mortgage as you will be covering mostly the interest. Therefore, if you move in the mortgage’s infancy you may need to take out a new mortgage at the original term once again
• While you can make overpayments on top of your regular monthly requirement there may be financial penalties for doing so
• Your monthly repayments will be higher than with an interest-only mortgage.
As the name suggests, repayments on an interest-only mortgage only pay off the interest that accrues on the capital you have borrowed. Often, interest-only is taken as a short-term option to help support a homeowner’s budget during financial difficulties. You must remember that at no point during an interest-only mortgage are you actually reducing the outstanding debt. To ensure you do pay off the mortgage at the end of its term, additional payments are often made into another repayment vehicle, such as an iSA or pension,that will eventually release a lump sum. Whether you choose a repayment or an interest-only mortgage, you will then need to select the type of mortgage rate that will affect your monthly repayments:
Fixed Rate Mortgage
If you choose a fixed rate mortgage you will repay the same amount back to the lender each month. This amount will not change for the agreed period, even if interest rates change. Fixed rate periods usually last between two and five years.
These are an excellent option if you want to budget and know exactly how much you will be paying for a certain amount of time. At the end of the fixed rate period it is likely the rate will become the lender’s standard variable rate or a tracker rate which will be outlined at the outset when you take the mortgage. At this point you may opt to take a further fixed rate with your existing lender or switch to a new lender in which case you will incur fees. Booking and arrangement fees apply when you initially take out a fixed rate mortgage and an early repayment Charge (erC) will often be implemented if you choose to make one.
Capped Rate Mortgage
Similar to a fixed rate mortgage except that if the variable rate drops below the capped rate, the borrower’s payments will be reduced as they will then be based on the lower variable rate. Conversely, if rates increase so will payments but not over the mortgage’s stated capped rate. As with the fixed rate option, charges and fees apply.
Discounted Rate Mortgage
With this option a lender will offer a discount from their standard variable rate for a specified time. To illustrate, if the variable rate is four per cent and the discount one percent, the borrower will be paying back at three percent. This option may not appeal to those who wish to know exactly how much they will pay back a month as if the variable rate rises (say to five and a half per cent in this example), the borrower will now have to pay back at a rate of four and a half per cent.
Variable Rate Mortgage
A borrower’s repayment will vary in accordance to the lender’s standard variable rate.
Tracker Rate Mortgage
Like a variable rate mortgage, a tracker follows the movement of a market rate, such as The Bank of england Base rate. The tracker rate will be a specified percentage above this rate and that will determine what the borrower will pay back each month, eg. one per cent above The Bank of england Base rate of four and half per cent (therefore five per cent). As the tracker follows a stated rate, monthly payments can vary and go up and down as the rate changes.