A mortgage is a big commitment so you need to understand what your responsibilities are, and what the different features of a mortgage are before you apply.
Here we give a brief outline of:
- What is a mortgage?
- Different types of mortgage
- How to take out a mortgage
- Things you should consider
A mortgage is a loan that is based on your personal promise to repay, but which is also "secured" on the property that it relates to.
The term "secured" means that if, for any reason, you do not or cannot meet your personal responsibility to keep up the payments on your loan, the lender can call on the underlying security. This means that the lender can follow a legal process to repossess the property and sell it, to recover the money that you owe.
This is different to an "unsecured" loan and demonstrates the particular importance of keeping up payments on your mortgage, as falling behind could mean you eventually lose your home. However, lenders realise that lots of households will face temporary financial difficulties from time to time. Lenders will not repossess except as a last resort when other solutions cannot be found.
When you take out a mortgage, your mind will often be on other things that might seem more important - for example, if you are buying a house, it is understandable if you feel more excited about the house than about the mortgage! But it is worth taking the time to ensure you really understand all the ins and outs of the mortgage before you sign the contract - it could make a big difference to your finances over the long term.
Mortgages may be used by:
- home-owners, to help them finance the cost of buying the home they live in, or
- landlords, to finance the cost of buying homes that they rent out to tenants, or
- businesses, to finance property in which the business is based, or property that the business sees as an investment.
The rest of this section looks only at mortgages for home-owners - if you want to know about buy-to-let mortgages see our buy-to-let consumer page.
Most people cannot afford to buy their home outright for cash. So mortgages to help people buy a home have been an important financial product for around 170 years.
Mortgages to help people buy homes began when the early building societies were formed to enable people to club together their savings to lend to their members to build or buy homes. Today, mortgages are mostly offered by banks and building societies, and also by other lenders who raise funds not from savers but by borrowing in the financial markets. You can see a list of the lenders who are members of the Council of Mortgage Lenders in our online directory. You can also check whether a lender is authorised and regulated on the Financial Conduct Authority's website.
There are many different variations on a basic mortgage. The main differences relate to:
- The repayment method
- The type of interest rate
- Fees and charges
- The mortgage term, and
- Shared ownership/shared equity mortgages.
The repayment method
All mortgages have to be repaid at the end of their "term" - the time period over which they extend. You can either pay off parts of the mortgage capital that you have borrowed as you go (a repayment mortgage), or pay off the total sum in one lump at the end and paying only the mortgage interest until then (an interest-only mortgage). Sometimes, people have a mortgage that is part-repayment, and part interest-only.
New mortgage rules took effect on 26 April 2014 from the Financial Conduct Authority. Under these rules, lenders have to assess affordability very carefully and need to pay particular attention to ensuring that you will repay the mortgage capital. This means that interest-only mortgages have become much less common. Unless you have a very clear and cast-iron plan for how you will repay your mortgage at maturity, you will usually be offered a repayment mortgage.
Repayment mortgages are structured so that the monthly payments you make stay the same (unless interest rates change) throughout the term, but the breakdown between the capital and interest portion of the payment varies over time. In the early years of a repayment mortgage, most of your monthly payment will consist of interest, with just a small proportion representing a partial repayment of the original amount you borrowed. Later on, a greater proportion of your monthly payment will consist of the repayment of capital, with a smaller amount of interest.
Each year you will receive a mortgage statement from your lender showing your mortgage balance at the start of the year, all the payments you have made, and a breakdown of those payments into interest payments and capital repaid. Assuming you keep up your payments, you will see your mortgage balance reduce each year.
The type of interest rate
You can take out a mortgage at either a variable rate or a fixed rate. Depending on your circumstances, your preferences, and your attitude to risk, your mortgage adviser will recommend which suits you best. If you are not using a mortgage adviser, it is important to think carefully about which type of mortgage rate will suit you better.
With a variable rate mortgage, your mortgage payments will go up if the lender's cost of funds rises and the lender puts the interest rate up. With a fixed rate mortgage, your rate will stay the same during the period of the fix (which might be anything from six months to ten years).
So fixed rates protect you against the risk of rates rising and your payments going up. On the other hand, the typical longer-term fixed rate is often higher than a variable rate for a similar mortgage, so you may be paying a premium for the predictability and certainty that a fixed rate provides. Your financial circumstances and attitude to risk are both important in choosing what type of mortgage rate will be best for you.
Fees and charges
Different mortgages come with different fees and charges attached, so you need to factor these in when comparing mortgage costs. A mortgage with a very attractive interest rate may have a high fee attached; a fee-free mortgage with a less attractive interest rate may end up being cheaper, depending on the size of your mortgage, and how long you keep that mortgage.
Your mortgage adviser will take fees and charges into account as well as the interest rate. If you are doing your own research, make sure you try to compare different mortgages over the same timescale. Comparing a two-year fixed-rate mortgage with a high fee against a five-year fixed-rate mortgage with a low fee, for example, is more difficult than comparing a two-year fix against another two-year fix.
Once you have selected a mortgage (or sometimes before, if you are comparing mortgages), you will be given a Key Facts illustration of all features and all the costs of the mortgage, before you apply. This will list out not just the interest rate and monthly payments, but also any fees and charges that you have to pay to obtain the loan, so you get a complete picture of the total cost.
The mortgage term
The mortgage term is simply the length of time that the mortgage will last. The traditional UK mortgage term is 25 years, but these days lots of people take out a mortgage for a longer or shorter term than this.
When people move house or remortgage, they may wish to ensure that their new mortgage will still finish at the time their previous one was due to mature. On the other hand, when people are just starting out in the housing market, taking out a mortgage for 30 or even 40 years can be a way of keeping monthly payments lower than they would be on a shorter term mortgage.
It's important to recognise that the mortgage term makes a difference both to the size od the monthly payment you will make on a repayment mortgage, but also to the total overall cost of the mortgage over its life. With a longer term mortgage, you would pay more overall than on a shorter term mortgage - although your monthly payments would be lower.
Shared ownership and shared equity mortgages
Often called "low cost home ownership" mortgages, these are mortgages where you borrow to part-buy the home in which you live. The remainder is usually owned by a housing association or developer, or consists of a loan that you will have to repay separately from the mortgage. These schemes are aimed at people who cannot afford full home-ownership, but who can afford to keep up payments on a mortgage on a property where the value of the property is part-funded from elsewhere.
The mortgage generally works in the same way as any other, but you need to be very clear that you understand the full implications of how the costs of shared ownership or shared equity work, and what you would need to do in the future to achieve 100% ownership of the property.
You can find more information on affordable housing schemes in the Buying a home section.
In April 2014, there were big changes introduced to the way that mortgages are sold. In most cases you will now buy your mortgage on the basis of advice from a mortgage adviser, if you arrange your mortgage by speaking to someone in person, or on the telephone.
In some cases, you may buy your mortgage on an "execution-only" basis, if you buy over the internet, without interaction or dialogue with the firm. You should only transact on an execution-only basis if you are completely confident in your ability to research and choose a mortgage yourself, as you will not have the additional protections and redress that would be available to you for an unsuitable mortgage if you bought on the basis of advice.
You can buy your mortgage either direct from a mortgage lender, or through a mortgage broker. A lender will only sell you a mortgage from its own product range. A broker will offer a range of mortgages from a range of different lenders and must make clear to you what range of lenders and products will be available to you if you use their services.
Whether you go to a lender or a broker, if you talk to an adviser then they will need to go through an extensive set of questions with you to work out which mortgage will be suitable for you. They will also ask you for various evidence of your income and expenditure to help support your mortgage application, This is to help the lender decide whether and how much they can sensibly lend you, and reduce the risk of you taking on more debt that you can afford.
Lenders have to check that you can afford the mortgage both at the outset, and in the future if you expect your circumstances to change. There is more information here on what lenders may ask you about your future circumstances.
There's a lot to consider when taking out a mortgage. If you use a mortgage adviser, they will spend time talking to you about your attitudes, goals and priorities to help them advise you properly on what type of mortgage you should consider.
However, it is worth thinking about your goals well in advance of the mortgage interview.
You might want to consider:
- The balance of your spending priorities. If you want to be able to take holidays, go out, and spend money on extras - or if you have big chunks of committed expenditure on children, alimony, or other debts - then you should probably consider borrowing less than someone whose financial circumstances are similar but who has lower levels of expenditure. It's important to be realistic.
- The other costs that go with being a home-owner - utilities, insurance, maintenance, garden costs and council tax will all need to be paid, and stamp duty will often apply, along with the mortgage - make sure you've planned for these.
- How tight is your budget? If you think affording higher payments could be a stretch if mortgage rates went up, then consider whether a fixed rate might be worthwhile for you - even if it seems more expensive in the short term than a variable rate.
- How long do you want to stay in the property? If you think you would want to move fairly quickly, then you might not want to choose a mortgage with a long fixed rate, for example. But remember that the costs of moving can stack up substantially - estate agency fees, stamp duty, removal costs, and the usual bit of minor redecorating that can so easily turn into a mini Grand Designs project can make moving an expensive option.
- How buying a home now fits with your other financial plans later. It's easy to get carried away and focus all your energy on your mortgage and acquiring your home, but don't forget to have an eye to the long term, and considerations such as retirement - the Money Advice Service and Gov.uk have information to help you think about this.
- Once you're ready, decide whether you want to take advice or go-it-alone down the execution-only route, and make sure you check out the other useful resources available on the Money Advice Service website.