Mortgage – what you need to know
The biggest investment that you’re likely to make in your life is buying a home. Ensure that you know what you can afford to borrow before you plan your mortgage. Find out where you can get a mortgage, the multiple types and how the system works.
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How do mortgages work?
A mortgage is simply a loan to help you buy a home. Usually, you would need to put down a deposit of at least 5% of the value of the house, and a mortgage allows you to borrow the rest of the balance needed from a lender.
Then you’ll pay back what you owe on a monthly basis, usually over a period of several years. Mortgage terms often run for around 25 years, but lenders can accept longer or shorter terms than that. Usually, you pay interest on the amount you borrow every month, whether at a fixed or variable interest rate, depending on the type of offer you select.
The mortgage or loan is secured against your house until it has been completely repaid.
You pay the interest and part of the capital off every month using repayment mortgages.
You can typically manage to have paid it all off and own your home at the end of the time period, often 25 years.
You pay only the interest on the loan and nothing on the amount you borrowed for interest-only mortgages.
As lenders and regulators are becoming more concerned about homeowners being left with massive debt and no way of repaying it, these mortgages are getting even harder to come by.
How much deposit do you need for a mortgage?
You need to save up for a deposit before looking at properties.
Generally speaking, you should aim to save at least 5% to 20% of the cost of the home you would like.
For example, you would need to save at least £10,000 if you want to buy a home costing £200,000 (5%).
Saving more than 5% of the value would allow you access to a broader variety of affordable mortgages. This is because lenders see higher deposits as being lower risk, and so you may get more favourable rates.
Why save for a larger mortgage deposit
While 5% could be the minimum you’ll need, if you can, there are plenty of reasons to save more.
- Monthly repayments may be cheaper: it may sound obvious, but the bigger your mortgage deposit, the lower your loan would be. The smaller your loan is, the lower it would be for your monthly repayments.
- Better mortgage deals: a bigger deposit would also make mortgage lenders consider you lower risk. This could lead to lower interest rates as a result. 90% mortgages, for instance, are normally priced around 0.7%-1% cheaper than 95% offers.
- Improved chances of approval on affordability: all lenders carry out affordability tests to decide if you can afford mortgage repayments. These checks are normally based on your income, outgoings and cash flow. If you put down a small deposit, you are more likely to fail these checks. This is because you will need to pay more per month on your repayments, which you may not be able to afford.
- Improved chances of approval based on your status: Lenders consider the risk of granting mortgages based on a number of factors. Theses include the stability of the applicants income, their credit profile, the property type / condition plus other factors. Where lenders think a borrower represents a higher risk, this can be offset by having a higher deposit. Simply put, the lender may consider taking a greater risk when lending 70% of the property value compared to 90% of the value.
- Bigger buying budget: lenders usually give a loan up to four-and-a-half times your annual income. So you may need a bigger deposit just to make up the value of the property if your salary is comparatively low.
- Less risky: if you own much more your house, you are far less likely to slip into ‘negative equity’. This is when you owe more on your mortgage than your house is worth. To be in negative equity will make it very difficult to move home or transfer mortgages.
How do mortgage lenders evaluate how much you can borrow?
Lenders will be looking at a number of variables when you get a mortgage quote. They include:
- The percentage of deposit you have
- How big a mortgage loan do you want?
- Your employment status
- Your credit rating
- How much can you afford? (income vs. existing commitments and outgoings)
- What sort of property you would like to purchase.
Different interest payment options
Fixed rate mortgage
For a fixed mortgage rate, the interest rate is fixed for a period of time, typically two, three, five or ten years. This means that your monthly payments will stay the same over that time, even when the Bank of England’s base rate rises or falls. This mortgage is suited to those who are able to spend a bit extra to have the security to make sure they know exactly what they’re going to pay per month.
Variable rate mortgage
With a variable mortgage rate, your interest rate can rise or fall on a monthly basis. This depends on external factors determined by the lender and often referred to as the lenders “standard variable rates (SVR) . Lenders consider the bank base rate a key factor but have discretion to set the rate as they wish.
This has a rate of interest that tracks either the base rate of the Bank of England or the regular interest rate of the lender. If you select a mortgage that tracks the base rate, the interest rate and the price that you repay per month will change if the Bank of England increases the base rate. A tracker mortgage, for instance, may be 1 percent above the base rate. You’ll pay 1.5% interest if the base rate is 0.5%. So, with an increase to 1.5% of the base rate, you’ll then be paying 2.5% interest. If your mortgage tracks the standard rate of your lender – known as the ‘standard variable rate’ or SVR – what you pay is based on the discretion of your lender. Generally, SVR’s stay in line with the base rate, and the lender is entitled to alter the rate as it pleases.
This is a mortgage at a variable rate that follows the SVR of the lender, but several percentage points lower. For example, you could save 1% off the SVR. So you’ll be paying 2% interest if the lender’s SVR is 3%. If you want to pay less now, a variable rate mortgage will suit you. However, you may be risking the prospect of your monthly repayments going up if the interest rate you are tracking rises.
An offset mortgage allows you to link you mortgage to your savings account, or sometimes your current account too. This means that the amount you have in your savings account is deducted from your mortgage. As a result, the amount of you mortgage that you pay interest on is lower. As well as this, you are still able to access you savings while you are paying off the mortgage.
For instance, if you have a mortgage of £200,000 with a interest rate of 3%, then the interest will cost £6,000 per year. However, if you link your mortgage to a savings account with £20,000 in, then you will be paying interest on £180,000 per year instead. The interest per year will cost £5,400, which saves you £600 per year.
Different types of mortgage to suit you
These are normally secured against an owner occupied house or a home which is/will be lived in by a relative. Such mortgages are regulated and you should expect to receive full advice and recommendations on a suitable mortgage from your broker.
Specific products have been developed different types of borrowers
Find out more by following the links below:
Affordability is determined by proven income so it is important to have up to date proof of income to get the best deals. For the self employed, ideally businesses accounts should be up to date and recent. However, there are lenders who will accept applicants who have only been self employed for a year or so.
The other key considerations are the amount required, available equity and the borrower’s credit history. As well as this, factors such as age, property location, property type and many more will play their part. Promise Money advisers will weigh up all of these factors to advise on what is suitable.
Buy to Let Mortgages (BTL)
Buy to Let mortgages work in a similar way to residential mortgages. However the big difference is that they are mostly unregulated due to the business nature of the borrowing. They can be taken out by individuals or a limited company and are often offered and arranged on a non advised basis.
While most are unregulated, there are exceptions, such as when letting the property to a family member. As well as this, BTL mortgages are often agreed on an interest only basis. This means that you will not be paying off the value of your mortgage over the term. For this reason it is important to have a plan in place to pay back the mortgage. However, it is possible to get BTL mortgages on a repayment basis. In addition, BTL mortgages can often have higher interest rates than standard mortgages, so it is very important to find the best option for you.
First Time Buyer Mortgages
First-time buyers will not have equity to use as collateral from a previous property. They also will not have a track records of maintaining mortgage payments previously. Therefore, they are able to access specialised mortgages for individuals who have never owned a property before. Generally, the minimum deposit accepted for these mortgages is 5%, but it is likely to be offered with a higher interest rate. It is wise to save up for a larger deposit. This will increase the number lenders willing and help qualify for lower interest rates. It will decrease the cost of interest on the mortgage over the full term.
There are schemes to help first time buyers get onto the property market. The most well known of these is Help to Buy Equity Loan, a government system intended to help homeowners get on the property ladder for the first time with small deposits. Help to Buy offers equity loans of up to 20% of the value of a home (40% in London). These five-year, interest-free loans allow borrowers to access mortgages at lower LTV% and therefore lower interest rates. Help to Buy is focused at first-time buyers. But there are other Government schemes that are theoretically open to anybody who buys a home for less than the threshold price and wants to live full-time in that house, provided they meet the criteria.
Some exclusive first time buyer mortgages may offer extra incentives, such as lower interest rates. However, they can sometimes be deceiving, so contact Promise Money for help to find the best deal for you.
Costs of a mortgage
A mortgage’s true cost includes annual repayments, plus the lender’s fees and charges.
When you get your mortgage offer all costs should be clearly set out and will be explained to you by your broker so you understand them.
Not all costs will be applicable every time but some of the fees and charges for mortgages could include:
This is the fee paid for the product (mortgage). It can also be known as the product/completion fee. Not all mortgages have this type of fee and they often apply where you are seeking a product with other benefits such as fixed rates. You may be able to add this fee to your mortgage, but it will increase the value of your mortgage, and so increase the total to pay back.
Reservation, booking or application fees
A booking fee can be applied when you apply for a mortgage, and is not normally refundable. It may be included as part of the arrangement fee, or can be dependant on mortgage size.
Your mortgage provider will normally require a valuation of your house to ensure the value of the house is consistent with the loan size. The lenders valuation only looks at the property value, not any future work or costs that may be needed. It also is not a structural survey and is intended to protect the lenders interests more so than yours.
This fee is to cover the work your broker does in assessing your needs and advising on the mortgage. If your broker gives you bad advice you can normally make a claim so brokers have to take expensive insurance and this fee helps to pay for that too. In addition your broker will handle all the administration and push the lenders to get your mortgage offered quickly. They will also work with all parties to then get your mortgage to completion. You can take out a mortgage without paying a broker fee but may have far less support when issues crop up. Brokers deal with lenders every day and have the experience and access to lender managers to overcome delays and problems for you.
This is also known as Clearing House Automated Payment System (CHAPS). This fee is normally not refundable, and pays for the transfer of money from the lender to your solicitor. It is normally a nominal amount less than £50
This fee pays for administration costs in setting up, maintaining and closing down your mortgage. If you pay this fee you may still have to pay an early repayment charge.
These are fees paid to ensure that the legal side of buying a house are all completed and handled correctly. This is split into the money paid for legal fees to the solicitor/conveyancer, and the disbursements.
Missed payment fees
If you miss payments some lenders may charge extra fees to make up for lost income. Worst case scenario is if you miss too many repayments then your house may be repossessed.
Charge for early repayment
Early repayment charges (ERC’s) may not always apply, so make sure to check the details on your mortgage offer. Early repayment charges appear most often when you take a mortgage with a specific feature. For example if you want your rate fixed for 5 years the lender is quoting a rate on the assumption you keep the mortgage for at least this period. They are taking an educated gamble on what will happen to interest rates and so are you. So if you the chose to remortgage because rates drop or there is a better deal available, the lender may charge an ERC for you cancelling the agreement. This typically ranges between 1%-6% of the balance when you repay. For instance, if you have £50,000 left to repay on your mortgage with a charge of 2%, then the early repayment charge would be £1,000.
Mortgage completion fee/closure fee
Once the mortgage term has ended a fee is paid to close. You may not have to pay this fee if you have paid the account fee.
Can I get a mortgage even if my credit rating is bad?
There are mortgage products out there to accommodate people in a number of financial conditions. So if your credit rating is less than ideal, don’t worry, it is likely that there will be a product for you. If you have a poor credit score, you will not be able to take advantage from the best offers. However a good broker will often still be able to get you some sort of mortgage. You are likely be offered slightly higher than standard interest rates, or perhaps a lower LTV ratio. This is only to represent the higher risk the lender is taking by allowing you to borrow funds with a less than perfect repayment track history.
What is a mortgage broker?
Searching for mortgage rates online is easy. But finding out which you qualify for and what is most suitable for your circumstances is a different matter. Getting it wrong can come back and bite you and be very costly. So using a mortgage broker can save you time and money.
A mortgage broker is a professional adviser who can find and apply for a deal on your behalf. They will take in to consideration factors you may not have even thought about. The current regulations require brokers to give suitable advice and consider a whole range of circumstances to protect your interests. If they get it wrong you can make a claim against them. They will also negotiate with lenders, solicitors and estate agents to get your mortgage completed and to overcome any problems or delays which crop up.
If your circumstances or requirements are in any way non standard, your broker will have the expertise and lenders to find what you need. Some mortgage lenders only offer mortgages through brokers (‘intermediaries’). So by not using a broker there are products you will be missing out on. Promise Money’s team of experts will take into account all of your circumstances to help you find the best deal for you.
For information on the mortgages click below.