Information On Mortgages

What is a mortgage ?

In layman's terms a mortgage is a loan used to purchase property, where the loan is secured against the property which you are buying. In this situation the lender has the first charge on your property. This means that if you don't pay the loan then the lender can seize your property and sell it, taking the value of the loan out of the sale proceeds (ie taking the first charge) and then giving you what is left.

In times of "property inflation" where the value of property increases at a rate vastly above inflation, there is frequently a situation where the current market value of the property has increased from the time it was purchased but the amount borrowed at the outset has remained the same (interest only mortgages) or even reduced (repayment mortgages) by capital repayments. The difference between the amount owed on the mortgage and the current market value is known as the equity. In times of property values falling there could arise a situation where the amount owed on mortgage is greater than the market value. This is known as negative equity.

The owner may borrow against the equity (frequently for home improvements such as extensions, conservatories, double glazing etc.) under a second mortgage and loan agreement with a completely different lender, often a finance company. The second lender notifies the first lender of the transaction but the title deeds remain with the original lender. In the event of the borrower defaulting on the repayments, the first lender has first call on the security of the property. It follows that the second lender sees his involvement as being at a higher risk and higher interest rates charged reflect this. In theory it is possible to have a second, third or subsequent mortgages, provided there is sufficient equity but in practice it is uncommon to have more than two charges.

Types of Mortgage

Variable Rate

As the name suggests, during the course of the loan the interest rate can go up or down. There may be spells of several months when the interest rate remains constant, or the rate can change many times over a course of months.

The interest rate charged by the mortgage lender is largely determined by the Bank Base Rate, so when the Bank of England announces a Base Rate change, variable mortgage rates usually follow the movement (up or down).

Lenders will often offer incentives to borrowers for taking out a variable rate loan.

Discounts - With these you pay a set amount under the lender's usual variable rate for a set period of time. The shorter the discount period, the higher the discount will be. For example the 2 year discount rate may be 1 % while the 1 year discount rate is 2 %.

Cashback - Lenders may offer a sum of money towards the cost of legal fees or survey charges.

Subsidies for Fees - Lenders may offer a sum of money towards the cost of legal fees or survey charges.

Base Rate Trackers

If you want to make absolutely sure that your mortgage follows the behaviour of the Bank Base Rate, then you can take out a tracker mortgage, which will always follow the Bank Base Rate. There are a few variations :

Lifetime Tracker - will track the Bank Base Rate for the entire life of the mortgage.

Fixed Period Tracker - runs for a set period at an agreed margin above or below the Bank Base Rate and then moves to the lender's standard variable rate.

There are also trackers where the lender makes a commitment that the difference between the Bank Base Rate and the mortgage pay rate will not exceed a certain level.

Fixed Rate

A fixed rate mortgage sets the interest rate you will pay for a specified period. This will guarantee the amount that you pay for each month for the agreed period of time. Once the fixed time period is at an end, your repayments will be at the lender's standard variable rate.

Capped Rate

A capped rate mortgage puts a maximum limit on the payable rate that you have to pay. An example is the best way to explain. Say you have a capped rate mortgage at 6 %. If the interest rate increased to 7%, the interest that you would pay would be 6%. If interest rates fell to 3% then the interest you would pay would be 3%.