8 min Read
09 Sep 2013

Written by Damien

Damien is one of the most widely quoted money and investment experts in the national press and has made numerous radio & TV appearances. He created MoneytotheMasses.com while working in the City when he became disillusioned with the way the public were left to fend for themselves because they could not afford financial advice.

More about Damien

A guide to mortgages

Despite the perceived simplicity of mortgages there is a lot more to the product than meets the eye. So I thought it would be a good idea to produce a mortgage guide.

What is a mortgage?

A mortgage is a sum of money borrowed from a bank or building society to purchase a property. This money is paid back to the lender over a fixed period (mortgage term) together with accrued interest.

Repayment Method

Repayment mortgage

Monthly repayments consist of part repayment of the capital amount borrowed together plus a payment towards the accrued interest. The outstanding balance will reduce over the mortgage term.

Interest only mortgage

With this type of mortgage, each monthly payment is only used to pay off interest, with the capital being paid off at the end of the mortgage term. The borrower will need to satisfy the lender that they have the means in place to pay off the capital when they commence the mortgage. Typically, the borrower will commence a saving plan to run in conjunction with the mortgage or alternatively plan to sell the property at the end of the mortgage term.

Interest Rate Options

Variable rate

Borrowers' monthly payments will increase or decrease as the lender adjusts the rate in line with market conditions. So the rate you pay is at the whim of the lender and is known as the lender's Standard Variable Rate (SVR). If market rates (such as the Bank of England Base Rate) fall then the lender is not obliged to pass this on.

Fixed rate

The interest rate on this type of mortgage is fixed for a specific period of time and will remain at this rate regardless of changes to the interest rate in the market place. Once the fixed period expires then the rate will normally convert to their Standard Variable Rate, or another fixed rate if available. Lenders frequently charge a fee (Early Repayment Charge) if a borrower wishes to terminate or switch to another interest rate within the fixed term.

Capped rate

In this type of mortgage the interest rate is variable, but although the rate can fall below the capped rate, it will not rise above it. As with the fixed rate mortgage there will normally be an Early Redemption Charge.

Discounted rate

With this type of mortgage the lender offers a discount on their Standard Variable Rate for a period of time. The interest rate may rise and fall but will always be discounted and at the end of the agreed period will revert to the Standard Variable Rate. Borrowers need to be aware that if a large discount is offered the monthly payments may jump significantly at the end of the discount period. Also, borrowers may be locked into the mortgage longer than the discounted period with an Early Redemption Charge levied if the mortgage is redeemed early.

Tracker mortgage

This is similar to a variable rate mortgage but here the rate is linked to a prevailing rate such as the Bank of England Base Rate. The rate will be set a percentage amount above the relevant base rate for a specific period and will 'track' the chosen rate over this period. This rate will be different to (and usually cheaper than) the Standard Variable Rate as this is set by the lender taking into account various market conditions, rather than tracking one rate.

Other Mortgage Features Available

Flexible/Lifestyle mortgage

This feature will allow over and under payments on your mortgage depending on a borrower's cash flow situation.

Offset mortgage

This is similar to a flexible mortgage but is linked to a current/savings account with the lender. The amount held in the current account will be used to 'offset' the mortgage debt when calculating the interest charged and could help you pay back your mortgage quicker. The borrower needs to be aware that interest will not be paid on any balance held in the current/savings account. But on the plus side the offset happens before tax is applied to the savings rate which is particularly attractive for high rate tax payers.

Cashback

As an incentive the lender will offer a lump sum of cash to the borrower once the mortgage has been arranged, this will typically be 3%-5% of the loan amount. There will, inevitably be a 'lock in' period whereby the borrower may be required to repay all or part of the cashback amount if the mortgage is terminated in this period.

Glossary

Deposit - The amount of money the borrower will have to find, in addition to the mortgage, to purchase a property.

Basic Valuation - This is a basic valuation of the property on behalf of the lender prior to agreeing a mortgage. This survey will just assess whether the property is worth the purchase price taking into account its general condition.

HomeBuyer Report - This a more comprehensive survey of a property with a more in depth assessment of the condition together with recommendations.

Structural Survey - This is the most comprehensive and, therefore, the most expensive type of survey. The report will be thorough and very detailed and this survey is recommended for older properties or those of non-standard construction.

Booking Fee - This is paid at the time of making an application for a mortgage to reserve funds in the chosen product. It is normally non-refundable if the application is declined.

Arrangement Fee - This fee is payable on completion of the mortgage processing and, in most cases, can be added to the loan.

Legal Fees - This is the amount a solicitor will charge to carry out all the legal work required in a property transaction.

Disbursements - This is a term that covers all the searches carried out by a solicitor to ensure legal unencumbered title to the property to be purchased.

Image: Idea go / FreeDigitalPhotos.net

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