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Tag: mortgage

What you need to know about mortgages

What you need to know about mortgages

In the UK, mortgages used to come in two main types, interest-only and repayment.  Now, it is practically impossible to take out an interest-only mortgage on a residential property (although it is still entirely possible to take out an interest-only mortgage on an investment property), which does relieve residential buyers in the UK from one key decision, but does leave them with another, namely, which specific type of repayment mortgage is the right one for them.

Standard repayment mortgages versus offset mortgages

Offset mortgages have been available in the UK for several years now, but they are still very much the newcomers in the UK mortgage market and as such may benefit from a bit of explanation.  The idea behind offset mortgages is that borrowers keep their cash savings with their mortgage lender, which then calculates the interest payable on the net amount (i.e. the outstanding balance on the mortgage itself minus the positive savings balance).  Borrowers keep access to their savings and can use them any time they need to.  In principle, this approach should provide a net gain as savers typically receive less interest income than borrowers pay in interest expense.  Objectively speaking, however, in and of itself, the calculation may be less straightforward as different savings products pay different levels of interest income and different mortgage products charge different levels of interest (and the same mortgage product may charge different levels of interest to different borrowers).  Having said that, it’s important to remember that tax is charged on interest income and hence forgoing it in exchange for reduce interest expense may generate meaningful savings, particularly for higher-rate tax payers.

Variable-rate mortgages versus fixed-rate mortgages

In and of themselves, variable-rate mortgages and fixed-rate mortgages probably need no further explanation, as the old saying goes, the clue is in the name.  It can, however, be rather more complicated to decide which one is right for you.  In theory, it might seem like a good idea to go for a variable-rate mortgage while interest rates are heading downwards, but fix when they look likely to head upwards again.  That way, you benefit when interest rates go down, but limit your losses when they go up (again).  In practice, however, there is a very real problem with this theory, which is that lenders are only too well aware of the fact that fixed-term mortgages shift the risk of interest-rate changes from the borrower to the lender and hence generally charge a premium to protect themselves from this risk.  In addition to this, lenders will typically only grant fixed rates for a specific period of time, and the longer that period of time, the higher the “fixed-rate premium” will be as the lender is assuming a greater degree of risk.  Once this initial period is over, you will either have to renegotiate another fixed-rate deal or move to a variable rate.  In other words, fixed-rate mortgages can work out more expensive than their variable-rate counterparts, plus they can involve a bit more administration.

On the other hand, however, fixed-rate mortgages do give borrowers stability and the reassurance of knowing that their payments will be the same from one month to the next regardless of what happens with interest rates and for some people this stability may be worth the extra money.  In particular, fixed-rate mortgages may be of benefit when interest rates are showing some level of volatility, perhaps going up or down a little each month, rather than either remaining constant or trending clearly in one direction or another.  In this situation, knowing that you’re going to be making the exact same mortgage payment each month, at least for the length of the fixed-rate period, can make budgeting a whole lot easier.

Your property may be repossessed if you do not keep up repayments on your mortgage.

 

Making sure you do end up owning your own home

Making sure you do end up owning your own home

In the residential property market, the general idea is that you buy a home in which to live and that ultimately you will end up owning it completely, i.e. you will pay off your mortgage in full.  Obviously, there is some nuance to this, for example, people may decide to sell their property during the term of the mortgage and they may or may not choose to move directly into another owner-occupied property, but that’s the basic idea.  The bad news is that even if you do plan to stay in your property and pay off the mortgage in full, there’s no guarantee that you will be able to do so, the good news is that there are steps you can take to increase your chances of paying off a mortgage successfully.

Assume that the effective minimum term of a mortgage is five years

The length of a mortgage term depends on the agreement with the lender, but since houses tend to be big-ticket purchases, mortgage terms tend to be on the longer side (as in a couple of decades or more) to keep the repayments manageable.  Borrowers can exit the mortgage any time they choose by paying back the amount owed – and possibly a penalty as well.  Penalties have to be reasonable, but, in short, if the borrower exiting the mortgage early would cause reasonable damage to the lender (e.g. the lender gave them a special introductory deal), then a penalty may be applied as redress.  In practical terms, the costs involved in moving home are so high that it generally takes about five years to recoup them, therefore it only makes sense to buy (and take out a mortgage), if you are totally confident that you can stay in the property for at least five years.  Please note, that if your Plan B is to let out the property should you wish to leave it then you will need to swap your residential mortgage for a buy-to-let, which is a different mortgage application with different approval criteria and its own associated set of costs.

Flexibility is good so avoid over-stretching yourself

Resist the temptation to “get on the housing ladder” at any cost.  If you cannot afford the sort of mortgage you will need to buy a suitable property, then accept the fact and carry on renting while you increase your savings and/or income.  Remember that owning a home brings responsibility as well as freedom.  If you’re fed up of the restrictions imposed by landlords, you may be tempted to focus on the fact that you’ll be able to do what you like with your own home.  Once you actually own a home, however, you may quickly come to understand just why landlords place restrictions on what tenants can and cannot do with a property.  You may also come to appreciate how convenient it was just to be able to call a lettings agent/landlord and have them deal with problems/repairs instead of having to sort it yourself (or make arrangements for someone else to sort it).

Learn to love insurance

When it comes to mortgages, for most people the most obvious forms of insurance to take out are life insurance, buildings insurance and home contents insurance.  These may be very wise investments (although, as always, make sure you get the right cover for your needs), however, you may want to extend this to income-protection insurance and/or critical illness cover, if you are self-employed or payment-protection insurance if you are employed.  For the sake of completeness, the infamous PPI scandal was related to the miss-selling of PPI, so basically it was a reflection on human behaviour rather than on the product itself, which can be a very useful purchase.

Your property may be repossessed if you do not keep up repayments on your mortgage.

 

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