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Cheap, Cheaper, Cheapest
A "starter home" can be an affordable way of getting onto the first rung of the property ladder, and with a freehold instead of a leasehold. Mortgages are the cheapest – least expensive – loan available, cheaper than personal and car loans, and much cheaper than credit-card cash advances.
Mortgages involve paying off principle and interest. If you borrow £100,000, that amount (£100,000) is the principle (or capital).
Relatively cheap though mortgages may be, the total amount you end up paying can be breathtaking. If you borrow £100,000 at an interest rate between five and seven per cent and pay it off over 25 years, you will have paid more than £200,000, of which £100,000 will be the original loan, and interest amounting to at least an additional £100,000.
Almost no one actually pays off a single mortgage over 25 years, but this example gives you an idea of the total amount of interest on residential mortgages.
Common Mortgage Types: Your Main Mortgage Decisions
Franklin D. Roosevelt, U.S President, 1933-1945
If you follow guidelines from the Financial Services Authority (FSA), you should make your mortgage decision based on these four main categories:
1. Payment Option - You can have a repayment mortgage, an interest-only mortgage, or a combination of both.
2.Mortgage type - Standard, Offset, or Current Account.
3. Interest Rate type - Fixed or Variable. If you select Variable, you then have four more choices: Tracker, Discounted, Capped or Collared. You also have to decide on the mortgage term, and the length of the initial rate deal.
4. Additional features: Do you want a cashback or flexible features?
PWP Tip There are different types of Offset and other mortgages. If you have savings and expect a large bonus, inheritance or other windfall, a mortgage adviser is essential.
Payment Option
With a repayment mortgage, your monthly payment is divided into two segments: some goes toward interest, some toward the principle. At the end of the mortgage term, you will pay off all of the interest and all of the capital. You will owe nothing.
With an interest-only mortgage, all of your monthly payments pay off only interest. At the end of the mortgage term (whether it is 5 or 25 years), you still owe all of the principle (in our example, £100,000). However, most borrowers of this type of loan also open a second fund to make contributions toward paying off the principle. They may have to buy ISAs every year, for example.
Mortgage Type
Offset Your mortgage is linked to your bank current account, savings accounts, or both. Your savings are credited against your mortgage, and the greater the total in your savings account, the less you pay toward mortgage interest. But if you withdraw some of your savings, your interest rate rises.
Current-account Resembles offset mortgages in that the balance of your account reduces your mortgage. Again, your interest will depend on the amount in your account.
Flexibility is Perfect for Some
Mortgages which offers any of various flexible features which allow you to change your mortgage payments - to pay more, or to pay less - according to your ability to pay.
In addition to provisions for overpayments and underpayments, some loans allow for payment holidays or allow overpayers to borrow back some money.
Interest Rate Type
With a fixed-rate loan, you agree a rate (say, 5%, or 6.5%) and pay that rate throughout the duration of the loan, whether one year or 25 years. With a variable, or standard variable, rate loan, the loan can, and probably will, change over the term of the loan. It may change several times, and the change may increase or decrease your monthly payments.
Fixed rates offer certainty. You know exactly how much you will have to pay. If interest rates go very high, or very low, you either come out ahead or behind, but you always know where you area.
Variable rates vary.
Tracker loans track the Bank of England base rate or some other rate. If the rate goes up or down, your loan rises or falls accordingly, but always in a certain relationship to the base rate.
Discounted. The name means what it says: you pay less than the lender's standard variable rate.
Capped. Like a tracker loan, a capped mortgage is linked to a base rate and can rise and/or fall but will not rise beyond a certain point even if the base rate continues to rise.
Collared. The opposite of a capped loan, a collared mortgage is linked to a base rate and can rise and/or fall but will not fall beyond a certain point even if the base rate continues to fall.
Many of these loans are for a limited period of time. After this initial term ends, you pay the lender's standard variable rate. Some of these loans also levy early-repayment charges if you pay off the loan before the end of the term, and these charges can be considerable.
It Could Be You (the Unexpected Early Repayment Fee)
You take out a mortgage for 25 years.
Will that be the same mortgage you are paying 25 years later?
Almost certainly not. You may still be paying a mortgage, but probably not the one you started out with.
You will probably move home - and mortgage with it - several times during the 25 years after you start your first mortgage.
Even if you don't move, you will likely remortgage.
When you remortgage, you effectively pay off the old one and start a new one. And in paying off the old one, you may get his with an early-redemption penalty.
Many people are surprised by this penalty, although it is still often in their interest to remortgage.
But the penalty plus the arrangement and other fees can erode much of the benefit in switching to a "better" deal.
Endowment Mortgages? Haven’t they been Kicked Out of Town?
‘Endowment’ sounds like a bad word. After all, many thousand of borrowers had shortfalls with endowments, and many lenders were fined for misselling.
With an endowment mortgage, you pay interest monthly, and you build a fund to pay the principle, usually with a vehicle that invests in the stock market.
Different endowments had different returns: some invested better than others, and the best ones did very well indeed with endowments that matured in the late 1980s. With the very best performers, borrowers earned enough to pay off the entire principle, and get thousands of pounds in cash as well.
Other borrowers just paid off the principle, while a few others had a shortfall. And when the stock market slowed down, especially after the bursting of the dot-com bubble, shortfalls became the norm. Endowment mortgages may still be available, and they may be appropriate for some borrowers.