Choosing a mortgage can be daunting as there are so many different types available. So how do you set about choosing the right one?
First of all, decide how you want to pay back the mortgage – you can either pay off the capital itself in installments (called a repayment mortgage) or you can pay the interest only (called interest only or endowment mortgages) and pay off the capital at the end.
Repayment mortgages – Widely considered the least risky and easiest to understand mortgage type, your monthly payment pays off a little of the lump sum of the mortgage, as well as interest on the loan. At the end of the term the mortgage is cleared. If you do not keep up with repayments the lender can repossess the property.
Interest only mortgages – With interest only mortgage you pay-off the interest on the loan but not the lump sum of the loan. At the end of the specified term you are expected to repay the lump sum. This type of mortgage have proven popular with buy-to-let investors and first-time buyers in particular because they are cheaper than a repayment mortgage. However, you must have the funds available to pay off the lump sum and must have a system of saving in place.
Endowment Mortgages – Endowment policies were very popular in the 1980’s, but many lenders did not fully inform people of the risks of this mortgage type. As a result many lenders had to pay compensation for mis-selling.
An endowment policy is intended to provide life insurance and save funds to repay the loan at the end of the term (usually 20-25 years). It is important to understand that if you choose this mortgage type, if the investment performs badly, you could face a shortfall on your loan at the end of the repayment period.
Since the eighties, endowment mortgages have declined sharply in popularity. Relatively few endowments are sold today but there are still millions of policies yet to mature.
In addition to choosing the mortgage type, you must choose how you are going to pay the interest on the loan.
Variable rates - Your lender adjusts their rates in accordance with changes in the interest rate set by the Bank of England. When you have a variable rate mortgage you pay the changing rate set by your lender. Whatever kind of mortgage you start with, it is likely to change to variable rates at some point.
Fixed rates - The interest rate is fixed for a specified period, usually two to five years. These are ideal for budgeting or if you think rates might increase, however, you do not benefit if rates fall, and will face financial penalties if you abandon your mortgage deal before the end of the fixed rate period.
Capped rates – Capped rates are fixed, but if rates fall, you pay the lower rate which can be convenient for budgeting.
Cash back deals – Lenders sometimes offer money back if you take out a particular mortgage. However, be aware that you may be subject to penalty charges if you later want to switch mortgages.
Discounted rates – With this kind of mortgage the borrower is offered a discount off the lender's variable rate. The rate paid will fluctuate in line with changes in the variable rate. The discount applies over a particular period.
The information above is for general information only and does not constitute investment, tax, legal or other form of advice. This information should not be relied up on as the basis to make any decisions. Always obtain independent, professional advice for your specific requirements.
Northfields Estates recommends that you seek the advice of an independent mortgage broker. Independent brokers are not limited to recommending particular products and often will have access to deals not available on the high street. Northfields are happy to recommend an independent mortgage advisor for your property transaction, call us on 0208 840 6666.
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