Home Mortgage Guide

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Home Mortgage Guide

We all need somewhere to live, but we’re not all rich. Renting is akin to throwing your money down the drain, so for most of us a mortgage is inevitable.

For most people their mortgage is the biggest financial commitment they undertake in their entire lives, both in terms of the sum involved and the period over which it is repaid.

The good news is that the mortgage market is highly competitive with numerous lenders vying to finance your home with all kinds of mortgage deals.

Types of Mortgage

The highly competitive mortgage lending market has led to a huge range of choices for consumers. While this is a good thing in keeping costs low the sheer volume of options available can be bewildering.

Repayment v Interest Only Mortgage

With a repayment mortgage each payment made covers interest plus capital repayment. In the early days the bulk of each payment goes towards interest. As the term progresses so the proportion of capital repaid increases.

With an interest only mortgage (investment backed mortgage) the entire sum is borrowed for the entire term. Mortgage payments consist solely of interest on the debt. The intention is that in addition to the mortgage payments the mortgagor also funds an investment(s) with a view to accumulating sufficient capital to repay the mortgage at the end of its term.

For most people a repayment mortgage is probably the best choice. The total interest paid is lower, and it is guaranteed that, provided payments are kept up to date, the mortgage will be repaid at term end.

More interest will be paid with an investment backed or interest only mortgage, and it carries the risk that the investment(s) will not have grown sufficiently to repay the debt at term end. There is, of course, the chance that the investment value will exceed the mortgage debt thus providing a cash bonus, but there is no guarantee of this. Interest only mortgages may be suitable for those who expect their earnings to increase in future, and given the historically high cost of housing may be the only means of securing accommodation for an increasing number.

But beware! There is currently a major scandal in the U.K. over the mis-selling of endowment mortgages, which has left many short of the funds needed to repay their mortgages.

This author believes in a "horses for courses" approach to money management with mortgage repayments, savings, investments, insurance etc each being handled separately so that each may receive the optimal approach appropriate to its purpose. Shelter is such a basic need that it should not be placed unnecessarily at risk thus a repayment mortgage is favored in most cases.

Fixed Mortgage v Adjustable Rate Mortgage (Variable Rate Mortgage)

This is essentially a gamble, requiring you to look into the future. Do you think interest rates will rise or fall? Over what period? The lenders have already made their guesses as reflected by the deals on offer, but interest rate movements are truly unpredictable. The further into the future you look, the more unpredictable they become. For cautious people fixed rates do offer the advantage of certainty, but you may suffer the frustration of being fixed into a higher rate when generally interest is falling. Reading the financial press may provide some insight, but frankly, given the term of most mortgages runs into decades, the best advice is to listen to your heart and follow your gut feeling.

A variant of the fixed v adjustable dichotomy is the capped mortgage. These fix a maximum rate for their duration, but allow you to benefit from any rate falls. A cap and collar mortgage keeps rates within a band - not exceeding the cap but not falling below the collar.

Trackers are linked to some external index, eg central bank rate, thus provide protection from arbitrary decisions by the lender

A flexible/offset mortgage links the mortgage with cheque and savings accounts and credit card. Savings used to reduce outstanding debt, whereas credit card borrowing takes place at the substantially lower mortgage rate. The mortgage interest rate can be higher than more "traditional" mortgages.

Points (sometimes called arrangement fees) provide a lower interest rate in return for payment of an upfront fee. To ascertain whether the payment of points is beneficial you need to consider how much the lower rate will save compared to the upfront charge. This depends on:

• How much you are borrowing (the more you borrow.
• The more likely points are to be beneficial) .
• How long the discounted rate applies for.
• What happens upon expiration of the discount rate, what fees apply in order to move the mortgage following expiration of the discount rate.

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