Choosing the right mortgage

Published 06th Jul 2007

A mortgage has two main ingredients: the capital, which is the amount of money you borrow, and the interest, which is charged on the capital until you have paid it back.

Mortgages tend to be sold according to how interest is charged, so you will probably choose between a fixed-rate and a variable rate mortgage.

The lender may also refer to the loan by one of its features so, for example, you may hear of a new flexible mortgage or a 100 per cent loan.

To give you an idea of your choice, here is a round-up of the most common types of mortgage:
Fixed rate - the rate of interest you pay is the same throughout the period of the fix - for example, 5.50 per cent for three years - so you know exactly how much your mortgage will cost for a given period.

The risk is that rates on variable-rate mortgages may fall below your fixed rate, and you will find yourself paying more than other borrowers. However, a fixed rate allows you to budget confidently.

Capped rates - like a fixed-rate mortgage a capped-rate deal has an upper limit but below that the rate you pay fluctuates in line with the lender's standard variable rate or the Bank of England's base rate (BBR). So you get the best of both worlds - a maximum rate but the potential for a reduction in your rate.

However, the cap is often much higher than the prevailing mortgage rate and in return for the security this type of mortgage offers, the rate you pay may be higher than those available on discount mortgages.

Discount mortgages - the lender's standard variable rate (SVR) is reduced by a set percentage. For example a 2.00 per cent discount on a variable rate of 6.50 per cent means you pay 4.50 per cent for the offer period.

If the SVR changes, so does the rate you pay, although you'll always be paying 2.00 per cent less during the discount period.

Lenders are increasingly offering stepped discounts where the margin between the SVR and the pay rate decreases after a set period.

Base-rate trackers - the rate you pay is at a set margin above the BBR and moves up and down as the base rate changes. This can be appealing because you know that when the rate is reduced, your monthly payments will go down. On the flipside, when interest rates are rising you can be sure the monthly cost of your mortgage will also go up.

Some tracker mortgages have caps, so you know the cost won’t rise above a certain level (see capped rates).

As well as choosing what type of pay rate you want on your mortgage, you will need to consider if you want the following features:
Cashback - you receive a cash lump sum on completion of your mortgage, which is either a percentage of your loan or a set amount. After that you are generally tied in to that mortgage deal for the next few years and face a redemption penalty if you want to pay off the loan.

If you're a first-time buyer and would benefit from some ready cash when you move in, perhaps to buy furniture, then a cashback might be useful to you. Some special offer rate deals, like fixed and capped rates, also come with a small amount of cashback.

100 per cent mortgages - if you're unable to come up with a deposit you could get a 100 per cent loan. While you'll pay more each month in interest because you've borrowed more, you're able to buy a home sooner rather then later.

If you know you can afford the monthly repayments, perhaps because you pay rent each month - but don't have any spare cash to save up, this could be a good deal for you. Some lenders charge a higher lending charge for mortgages above 90 per cent loan to value (LTV), but some will offer 100 per cent deals with no MIG.

Flexible mortgages - flexible mortgages give you more control over how you pay off your mortgage. There are a number of features you can expect on a fully flexible loan: the opportunity to make overpayments, the facility to underpay and take payments holidays and the chance to drawdown money that you have overpaid. Most flexible mortgages will also have daily interest calculations so you get the benefit of any overpayments straight away.

Current account and offset mortgages are the ultimate in flexible mortgages. Your current account and/or savings are linked to your mortgage and any money you hold in them reduces your mortgage debt and the interest payable on it.

Source: ' What Mortgage '

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