Types of mortgage
Finding a mortgage for you
Taking out a mortgage is a pretty big step, whether it’s your first or you’re moving up the property ladder. As the most sizeable loan you’ll ever take out, choosing the right type is essential. The choice, whilst at first glance may seem bewildering, is not as complex as it appears.
Essentially, there are two key types of mortgages – repayment and interest only. Once you’ve identified the way in which you want to repay the money lent to you, narrowing down the choice becomes easier. It is simply the case of finding the best deal.
How is mortgage money repaid?
You will pay your mortgage in monthly installments, but first you need to decide which option will suit your needs, and what you can realistically afford.
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Repayment Mortgage: you borrow a lump sum over a fixed period (usually 25 years, but it can be less). You pay some interest and capital off each month, and the capital reduces over time
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Interest Only Mortgage: Your monthly payments represent only the interest due to the lender, and do not include repayment of capital. Your total loan must be repaid at the end of the mortgage term. You may therefore need to arrange additional investments which will generate sufficient capital to repay the loan.
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Advantages: You can choose from a variety of investments, some of which have tax advantages. Should you move or arrange a remortgage, your investment can usually be reallocated to the new mortgage.
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Disadvantages: Unlike a repayment mortgage, the amount of debt outstanding does not reduce over time, and there is no guarantee that the investments chosen will grow sufficiently to repay the loan. Also, investment-linked interest-only mortgages can be slightly more expensive than repayment mortgages.
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Endowment Mortgage: You make two payments every month. One to the lender to repay the interest on the amount borrowed, the other to an insurance company for an endowment contract. There are mainly two types of endowment: unit linked or with profits. Both invest in a broad range of assets including stocks and shares. The capital in the endowment builds up over the term of the mortgage to repay the outstanding capital.
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Advantages: This one is very flexible. You can take the endowment policy with you if you move home or change mortgage lender. Endowments usually include some kind of life cover and some also include critical illness cover. If the endowment contract performs well, you may accumulate more funds than required to repay the loan. However, endowments are not risk- free as there is some investment in the stock market.
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Disadvantages: Your fund may not build up sufficiently to repay the capital. Taking financial advice, carrying out regular reviews and generally keeping a watchful eye on your fund's performance will help to prevent this happening.
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Pension Mortgage: You make two payments every month. One to the lender to repay the interest on the amount borrowed, another into a personal pension plan. The aim is to build up your pension fund sufficiently to repay the loan and to provide you with a retirement income.
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Advantages: Has tax advantages, as the contribution you make to the pension plan attracts tax relief at the highest rate of tax you pay.
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Disadvantages: You must ensure that your pension is well funded to ensure that you have sufficient to repay your loan and provide for your retirement. The tax free lump sum that is paid on retirement is used to repay the mortgage loan, but there is no guarantee that there will be sufficient funds to do so.
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ISA Mortgage: You make a monthly payment to the lender to repay the interest on the amount borrowed, and start to invest into an ISA plan. The plan builds up over the term of the mortgage to repay the outstanding capital. ISAs allow you to invest in cash, life assurance and stocks/shares, and work in a similar way to the endowment method.
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Advantages: Your money could grow faster within the ISA fund than an endowment because of tax advantages and because ISAs invest most of your money into stocks and shares. They can grow very quickly if the stock market performs well. However, if there is a stock market slump, you may not be able to pay off your loan at the end of the term. They are more flexible than endowments and can work out cheaper.
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Disadvantages: Stockmarket fluctuations could adversely affect the value of the plan, as your capital is not guaranteed. Therefore, there is no certainty that you will be able to repay the mortgage. You need to arrange separate life and ill health cover. There is no guarantee ISAs will continue indefinitely. ISA contributions are currently restricted to a maximum of £7,200 in any tax year.
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Flexible Mortgage: A repayment mortgage with a difference. They are more accommodating than the rest. Flexible mortgages allow you to increase, decrease or take a temporary payment holiday when financial difficulties arise.
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Advantages: If you were rewarded with a bonus, had a share scheme windfall or had fewer financial outgoings in some months, you could pay off lump sums, gradually chipping away at your mortgage. If disciplined, you could shave years off the length of your mortgage term and save a small fortune in interest payments. Even an extra £50 a month soon adds up.
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Disadvantages: if money gets tight, for instance due to loss of earnings, you can reduce, or temporarily stop payments. To do this, you will usually need to have made some overpayments.
Know your rates
Your home may be repossessed if you do not keep up repayments on your mortgage.
For mortgage advice you can choose how we are paid:
1) A fee of 1% of the loan. For example, £1000/£100,000 loan and we will refund to you any commission we receive from the lender.
2) £350.00 on application. A "prop" fee will be received from the lender.
3) A combination of the above