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A guide to mortgages

Find out about mortgages and how to find the best one for you

Finding the best deal

We all know the old saying don’t we? Home is where the heart is. Well, your home is also where a great big chunk of your money is.

There is no doubt that decisions about your home are going to be some of the biggest you ever make - and an integral part of that decision will involve your home loan, or mortgage. Whether you are looking for a new mortgage, remortgaging to find a better deal, or buying for the first time, one thing is for sure - you will need to do your homework.

First of all, stop throwing your money down the drain!

Homeowners across the UK are losing thousands of pounds by not shopping around for the best deals when they move. For first time buyers, that first rung of the housing ladder is a lot higher up than it used to be - you may well find that taking the time to shop around will give you the lift you need. There are stacks of deals out there and a huge difference in the cheapest and most expensive.

Even if you are planning to switch lenders in a few years time, any mortgage is a massive long-term commitment, and it is important that you understand what is involved. As such, you need to work out your budget and be honest about how much you can really afford to repay each month. If you are uncertain seek advice from a qualified adviser.

What is a mortgage?

In simple terms, a mortgage is a large loan secured against your home, usually for a standard term of 25 years.

When taking out a mortgage, you can traditionally borrow at least three times your annual income, although your lender may be willing to give you and your partner more depending on your circumstances and income.

Although the term is generally 25 years, it can vary with each lender.

You will almost always need a deposit of some sort and the more you can put down the better. That said, most lenders will offer a mortgage to 95% of the property value, and some will even provide 100% mortgages.

But bear in mind, this makes you more of a risk and a lender is unlikely to hand over large sums of cash without taking precautions or asking for insurance.

Remember that a mortgage is a secured loan, which means that the lender could take your home away if you do not keep up with payments.

There are two main ways you can repay your home loan, either through a Repayment scheme or an Interest Only scheme.

Repayment mortgages

This means that you pay back the capital and the interest of your mortgage on a monthly basis. If you can afford to make monthly payments on the capital, which is the lump sum you borrowed in the first place, this is the best way to go.

TIP: This provides certainty of capital repayment and is not dependant on investment return.

Interest only mortgages

This means you pay off the interest on your mortgage, but not the actual lump sum or capital you owe.

Meanwhile, you also pay cash into another investment policy, such as an ISA or a pension. You then pay off the mortgage at the end of the term with the money you have built up in the investment policy.

When price houses are high, an interest only mortgage may be the only affordable option for people who are just starting out.

TIP: You are taking a risk with an interest only mortgage. On the one hand, your investment could really pay off and you could end up with some cash left over once the mortgage is paid. But on the other, your fund could fall short, leaving you with an outstanding debt and no way of paying it off.

TIP: ISA or pension backed policies are attractive as they are tax efficient. But they are often quite complicated, so you need to know your stuff or get some advice.

TIP: Some customers may have opted for an endowment mortgage in the past, which is a life assurance policy popular in the 1980s. People are advised to steer clear of these nowadays as many homeowners may experience shortfalls.

TIP: Do not fall behind on payments into an investment scheme. It is up to you, not your lender, to make sure these meet expectations.

Types of mortgage

Okay, so seeing all those deals out there may be a little daunting. But why not look at the other side of the coin? What you need to remember is that choice is good. More deals means more competition, which can only be better for you, the customer. There is a massive market out there, ranging from mortgage products with fixed repayments to others that move up or down in line with the Bank of England Base Rate (BEBR), which changes in line with Government targets on inflation. Think about the type of mortgage that you want and search for the best deal.

Here is a quick guide to the different types of mortgages:

Variable:

A variable rate will move up and down with interest rate changes. Lenders will usually change their Standard Variable Rate (SVR) in line with the BEBR.

TIP: A mortgage lender’s SVR is relatively high, which usually comes into play once an offer period is over and may signal time to move to another deal!

Fixed:

If you want or need your monthly payments to stay at a fixed rate for a set period of time, usually 2 years, then this is the way to go. If the BEBR seems to be on the increase, a fixed rate could save you money as it will not be affected. However, if rates drop, a fixed rate will stay the same and you will miss out on savings from the lower interest rate. These types of mortgage are fixed for a short period, and usually revert to the lender’s SVR.

TIP: Some lenders offer long-term fixed rates. Some people may feel more comfortable knowing that their rate will stay the same for up to 20 years. But if rates were to drop to an all-time low, you would miss out and there are usually Early Repayment Charges (ERC) that tie you in.

Discount:

These mortgages offer a discount off the lender’s SVR. Although the initial rate may look good, remember this is variable and could go up and down with the SVR, which will in turn move in line with the BEBR. So, while your rate could drop, it could well rise. After the discount period, you will also revert to the SVR or other standard rate.

TIP: With variable discounts, your rate and your monthly repayments could rise or fall.

Capped:

A capped mortgage offers a variable rate with a fixed element. While your interest may move up or down with the base rate, it will not go above a set, capped rate. This means your repayments will be kept down.

TIP: Make sure you do not confuse the initial pay rate with the capped rate.

Tracker:

These products simply track the BEBR. A tracker will usually offer a unit rate above the BEBR and move up and down in accordance.

TIP: If you are looking for consistency, this may not be the way to go. But on the other hand, it could mean your rate and your monthly repayments could drop.

Offset Mortgages

By taking this type of mortgage, you can make the money in your current or savings account work a little harder for you than usual. The balance of the mortgage is basically reduced by the amount of money in your savings or current account. So, if your mortgage is £100,000 and you have £5,000 in savings, you mortgage balance will be considered as £95,000 and you will only be charged interest on that amount. As the interest on savings is being offset, you are effectively paying no tax on your savings interest. These mortgages are also known as Current Account Mortgages.

TIP: By offsetting your mortgage balance against a current or savings account, you could end up paying less interest or paying your mortgage balance off much quicker.

Buy To Let

More and more people are recognising the benefits of buying houses, renting them out and watching the profits roll in. In fact, investment in houses is so rife now that most lenders have set up special Buy To Let mortgages. The idea is that the income you get from the rent will cover the mortgage payments and then some. But becoming a landlord means taking on a great deal of responsibility and is also a massive financial commitment. Problems with tenants may mean that your rental income dries up. Lenders will often only lend to 75% or 80% of the property value and you will need to show that likely income rental will cover 130% of your mortgage payments. Tax on your profits will also be at the highest rate of income. There are loads of different types of Buy To Let mortgages, from fixed to discount to trackers.

TIP: Whatever you do, make sure you look around for the best deals.

Please, bear in mind that any variable rates, discounts or trackers, will mean fluctuations in your monthly repayments. Also remember that some fixed and discount mortgages may offer really attractive, low rates at first, but these are unlikely to last. Make sure you know how long these last for and what the ‘revert to’ rate is. While your initial payments may be very low, these could shoot up shortly after the original term ends. These mortgages are also likely to carry a tie-in or ERC to stop you switching to another lender or product straight away. Also look out for the Annual Percentage Rate (APR), which lenders are obliged to give and which shows the interest rate plus any other charges.

The right mortgage

Anyone looking to move house could save thousands of pounds by taking the time to shop around for the best mortgage deal. But even if you are not moving, you may well find that changing your mortgage or remortgaging could mean big savings over the years. Remortgaging, either with your current lender or a new one, could also enable you to free up cash, which can in turn be spent on home improvements.

Many people are still on old mortgages or are now paying a SVR simply because they have not thought about or had time to check out the better deals. If you are one of these people, stop now! You are probably spending money you do not need to be spending. For First Time Buyers (FTBs) making that giant leap onto that property ladder, lenders will often be more lenient about how much they lend – after all, it is better for the housing market if there are more people using it!

Movers and shakers
If you are a bit of a mover and a shaker, watch out for products that carry Early Redemption Charges or Early Repayment Charges. Lenders may charge you if you back out of your mortgage deal within a specified number of years and many who offer shorter term low rates may include an overhang, which means you may not be able to back out without paying a fee even when the offer period is up. If you are likely to want to change after a couple of years, avoid ERCs at all costs!

TIP: Many products with low introductory rates are likely to carry ERCs to stop you moving once the offer period is over. Particularly avoid ERCs that go beyond the offer period or carry an overhang.

Paying it back

Nowadays, there are lots of regulations in place to make sure that lenders do not sell mortgages that people simply cannot afford. However, it is also down to the borrower to be honest and responsible about what they can and cannot take on. Make sure you are honest about your annual income. You could end up getting into trouble whether you are on a variable rate or not. And, at worst, find yourself and your family without a roof over your heads, or with a criminal record for fraud.

TIP: Think about how you are going to repay the mortgage capital. Decide how you are intending to repay the capital and make sure that you act accordingly. Do not just put it off as a problem for the future.

Mortgage flexibility

Mortgages are traditionally a little rigid, but more and more are breaking the mould. These days, some come with flexible features, such as overpayments, underpayments, payment holidays or daily interest. Some mortgages are even designed specifically as flexible mortgages and will include most of these features. All of these do pretty much what they say they do. Overpayments and underpayments allow you to repay more money or less money throughout the year, while payment holidays allow you to take a break from repayment. Daily or monthly interest is becoming more common on mortgage products. Your monthly repayments will be making a greater dent on your interest if it is being calculated on a daily basis, so this is the way to go.

Another flexible feature, which is a mortgage type in its own right, is a Cash back Mortgage, which offers customers a lump sum cash back amount or a percentage upon completion. This frees up cash to spend on your home, but it should not be an overwhelming factor in why you choose a mortgage.

TIP: Remember to always consider the interest rate first and foremost.

Mortgage fees

There seem to be an endless list of fees when taking out a mortgage, some of which can be avoided by shopping around. These include booking, administration or arrangement fees, which may be charged when the mortgage is being set up. Valuation fees will be charged when the lender decides to value your home. Legal Fees are also a must as you will need a solicitor to make the process of a new mortgage or remortgage official. Mortgage Indemnity Guarantee (MIG) or Higher Lending Fee may also be charged if you only have a very small deposit or you have none at all. However, some of these fees may be discounted or withdrawn as an incentive to sign up to that mortgage product. Valuation fees in particular may be free, refunded or discounted as an incentive.

TIP: Most customers should avoid products with MIG fees.

TIP: Some fees may be refunded, so look out for the offers. However, a product with waived fees may carry a higher rate than one without and will probably cost more in the long-term.

Insurance

Many lenders will offer or include buildings and contents insurance. Some lenders will also offer Mortgage Payment Protection Insurance (MPPI), which will cover you for accident, sickness or unemployment (ASU). As is the case with many financial products, you may be able to get a better deal on insurance from somewhere else, such as an independent broker.

Problems getting a mortgage

If your credit history is not something to shout about, you may find getting a mortgage a little tough going. This will include anyone who has mortgage arrears, where they fall behind in their payments, has been bankrupt, has a County Court Judgement (CCJ) against their name or has defaulted or made late payments. However, there is a whole market for people in this position, and it is growing by the year. Your rate may depend on how many marks you have against your name or how long they date back As you would expect though, the rates are going to be higher than standard mortgage rates because of the presupposed risk involved.

Self-employed people or self-certified borrowers who do not offer proof of earnings are also likely to pay more, as once again, they fall under the higher risk category.