Mortgages

Types of Mortgages - Overview

Generally, mortgages fall into one of 2 categories:

Interest Only Mortgages

Under this type of mortgage, you only pay the interest on the outstanding balance.  As a result, the amount you owe will never be paid off.

Repayment Mortgages

Under this type of mortgage, you will repay both the interest on the outstanding balance, but also a proportion of the capital outstanding.  This type of mortgage will have a fixed term, and therefore you can rest assured that if you keep up your mortgage repayments, your mortgage will be paid off at the end of the term.

 

Types of Mortgages – Interest Rates

Tracker Mortgages

The most common type of tracker mortgage is a base-rate tracker.  A base rate tracker is a mortgage with an interest rate that tracks the Bank of England's base rate.  These mortgages apply the base rate for a period of time, before reverting to the lender's standard variable rate.  With Lifetime Tracker Mortgages, the base rate may apply for the whole mortgage term.

The actual interest rate you pay is higher than the base rate, since the lender will apply a margin of around 2% on top of the base rate.  Because these types of mortgages are determined by the Bank of England base rate, every time the base rate changes, your interest rate will change by exactly the same amount.

Fixed Rate Mortgages

A fixed rate mortgage is where the mortgage lender agrees to fix the interest rate on your mortgage for a period of time, usually between 1 and 5 years, although some lenders offer longer terms.  After the agreed period, the interest rate owed on your loan usually reverts to the lender's variable rate. 

The main advantage of a fixed rate mortgage is that you will know exactly what you owe, and what you will pay each month. The main disadvantage is that you will not benefit from any falls in market interest rates, and as a result, you may end up paying more in the long term than if you had chosen to opt for a variable or tracker rate.

If you want to transfer the mortgage before the end of the term, an early redemption penalty is usually payable which can be substantial, for example you may be charged six months interest for leaving a five-year fixed rate agreement.

Variable Rate Mortgages

Each mortgage lender has its own standard variable rate (SVR) of interest, which it uses as the basis for all the mortgages it offers.  The standard variable rate of each lender is generally based on the Bank of England’s base rate.  Each time the base rate is increased, mortgage lenders increase their standard variable rate, and when the base rate is lowered, lenders lower there standard variable rate (although this is not always the case, or at least not straight away).

Generally, mainstream lenders such as major banks and building societies, which target customers with reasonable credit ratings, set their standard variable rates around 2% above the base rate.  But some lenders who may be attempting to win new business and increase their customer base, may charge a lower standard variable rate in an effort to compete with the major lenders.  While other lenders, who target customer with poor credit ratings, may set their standard variable rate a little higher to compensate for the increased risk.

Further Reference

For an estimate of your likely mortgage repayments, you can use the Mortgage Calculator.

For further information on the UK mortgage market, see the following websites:

• http://www.mortgageguideuk.co.uk/
• http://www.moneyextra.com/mortgages/
• http://www.financezoom.co.uk/category/mortgages/