Which is the right type of mortgage for me?
Whilst there are a wide variety of mortgages generally available, they tend to fall into three categories – Variable Rate, Interest Only and Fixed Rate. In this article, we’ll take a brief look at each type.
(This is an introductory blog to mortgage types but Wallace Quinn are not financial advisors. Before making any decisions on what mortgage is right for you and your circumstances, you should discuss matters in depth with a mortgage broker or an Independent Financial Advisor.)
Variable Rate Mortgages
This is the “original” type of mortgage and, as the name suggests, the interest rate charged for this type of mortgage can vary from time to time. Whilst interest rates have been very low for the last 15 years or so, there was a time when the variable interest rate mortgage was as much as 15%!
Within the variable rate mortgage group you’ll find the Standard Variable Rate, the Discount Mortgage and the Tracker.
The Standard Variable Rate
The interest rate charged in this type of mortgage is the main rate published by the mortgage provider. It tends to be higher than other available rates or types of mortgage and is the default rate at the end of a fixed rate or fixed term mortgage. The interest rate varies according to Bank of England base rates that are set from time to time. That means the interest charged on this type of mortgage can go up as well as down.
The Discount Mortgage
This type of mortgage also has a variable rate but the difference between this mortgage and the Standard Variable Rate mortgage is that the interest rate is discounted against the Standard Variable Rate. This means that for the duration of the mortgage – or for a fixed period of time – you’ll pay an interest rate that’s less than the lender’s standard variable rate.
You need to carefully select your lender and the amount of discount. You might be able to get a mortgage with a large discount against the standard variable rate – but if that standard variable rate is high then it might work out better to take a smaller discount from a lender whose standard variable rate is lower.
You also need to be aware that this rate will fluctuate along with the standard variable rate – if it goes up, your discounted rate will increase. If it goes down, your discount rate will go down – and there may be a “floor” below which the discount rate can’t fall. Check out the small print carefully with this type of mortgage.
The Tracker Mortgage
This is another type of mortgage where the interest rate can go up or down. This time, the rate is pegged to movements of the Bank of England interest rates rather than the Lender’s standard variable rate. So, if your initial interest rate is, say, 3.5% above Bank of England base rate and that rate is 0.25%, then the interest rate you’ll pay is 3.75%. This means the interest rate you’ll pay will track up or down depending on what the Bank of England does with its rates.
Fixed Rate Mortgages
If you’re looking for some degree of certainty, a fixed rate mortgage might be the right one for you. As the name suggests, the interest rate for this type of mortgage is fixed for a period of time. It might be a two year or a five year fixed rate deal – or it might be even longer. There are some 10 year fixed rate deals currently available and it’s even been suggested that fixed rate deals for the full term of the mortgage will soon become available.
What a fixed rate mortgage does is give you certainty about how much you’ll pay for your mortgage each month. This will help you budget and you’ll know that your mortgage payments won’t change until the end of the fixed rate period. It doesn’t matter if the standard variable rate charged by the lender goes up or down – your mortgage payments will stay the same.
Clearly, you’ll benefit if the standard variable rate goes up but if it goes down to a rate below your fixed rate, you might lose out. You need to consider this across the whole term of the fixed rate mortgage.
When your fixed rate period ends, you automatically revert to your lender’s standard variable rate. If that rate’s lower, it might suit you. If it’s higher, you can always look to move to another fixed rate mortgage to have the benefit of knowing how much you’ll pay each month irrespective of the fluctuations in the interest rate market.
There’s usually a penalty if you repay this type of mortgage before the fixed rate term ends and there are also likely to be arrangement fees. Please check these out if you’re looking to go with this type of mortgage.
It would be fair to say that fixed rate mortgages are very popular with first-time buyers because it gives them certainty as they take their first steps on the property ladder.
Interest only mortgages
You’ll have gathered by the title that these mortgages involve paying only the interest due on the mortgage each month. That means that the actual repayment figures are much lower than the other types of mortgages. However, because you’re not paying back any of the capital, you’ll always owe the amount you originally borrowed.
Interest only mortgages tend to fluctuate as the standard variable rate fluctuates.
When the mortgage term comes to an end, you then have to repay the amount your borrowed. To do that, you might have to use your savings – or you might have to sell the house! Some people decide to re-mortgage at that point and use the proceeds of the re-mortgage to pay back the capital borrowed in the first loan.