Buying a home is probably the biggest financial commitment you are likely to make in your lifetime. Before you arrange your mortgage, you need to make sure you know what you can afford to borrow. You then need to find out where to get a mortgage, the different types and how the process works.
What is a mortgage?
A mortgage is a loan taken out to buy property or land. Most mortgages are paid over 25 years but the term can be shorter or longer. The loan is ‘secured’ against the value of your home until it’s paid off.
[If you can’t keep up your repayments the lender can repossess (take back) your home and sell it so they get their money back]
How does a mortgage work?
The money you borrow is called the ‘capital’. The lender then charges you interest on the capital until it is repaid. The type of mortgage you apply for will depend on whether you want to repay interest only or interest and capital.
· Repayment mortgage
With repayment mortgages you pay the interest and part of the capital off every month. At the end of the term, typically 25 years, you should manage to have paid it all off and own your home.
· Interest-only mortgage
With interest-only mortgages, you pay only the interest on the loan and nothing off the capital (the amount you borrowed). These mortgages are becoming much harder to come by as lenders and regulators are worried about homeowners being left with a huge debt at the end of the mortgage term and no way of repaying it. With interest-only mortgages, you need to have a separate plan for how you will repay the original loan at the end of the mortgage term.
· Combination of repayment and interest-only mortgages
You can ask your lender if you can combine both options, splitting your mortgage loan between a repayment and interest-only mortgage.
Different types of mortgage
Once you’ve decided how to pay back the capital and interest, you need to think about the mortgage type. Mortgages come with fixed or variable interest rates.
· Fixed rate
With a fixed-rate mortgage your repayments will be the same for a certain period of time – typically two to five years. Your repayments are fixed for that period regardless of whether interest rates go up or down in the wider market.
· Variable rate
If you have a variable rate mortgage, the rate you pay could move up or down, in line with the Bank of England base rate. There are various types of variable rate mortgages.
How much can I borrow for a mortgage?
It’s important that you don’t financially overstretch yourself so that you end up struggling to keep up repayments. To avoid this, you need to think about the running costs of owning a home, such as utility bills, council tax, insurance and maintenance.
Lenders will want to be satisfied that you can afford the repayments, particularly if interest rates go up, so will likely require you to provide proof of your income, expenditure and any debts you have. They might also ask for information about household bills, child maintenance and personal expenses. Lenders might refuse to offer you a mortgage if they don’t think you’ll be able to afford it.
What is a deposit and do I need one to get a mortgage?
A deposit is an amount of money that you put up front towards the cost of the property you’re buying. It’s likely that lenders will require you to have a deposit before they grant you a mortgage. The more deposit you have, the lower your interest rate could be.
What is LTV?
LTV means ‘Loan to Value’. The meaning of this is best demonstrated by an example:
· You have a £10,000 deposit for a property that costs £100,000. The deposit is 10% and the LTV is the remaining 90%. The mortgage is secured against this 90% portion.
The lower the LTV, the lower your interest rate is likely to be. This is because the lender takes less risk with a smaller loan.
The cheapest rates are usually available for people with a 40% deposit.
Where can I get a mortgage?
You can apply for a mortgage directly from a bank or building society, choosing from their product range but you can also use a mortgage broker or independent financial adviser who can compare different mortgages on the market as well as mortgages which are not offered directly to customers. Some brokers look at mortgages from the ‘whole market’ while others look at products from a number of lenders.
Applying for a mortgage
Applying for a mortgage is often a two-stage process.
The first stage is usually basic ‘factfinding’ where the lender or mortgage broker will ask you a series of questions to work out how much you can afford and which type of mortgage you might need.
The second stage will involve a more detailed ‘factfind’ and affordability check. It is likely the lender will require evidence of income and will also assess the impact on your repayments should interest rates rise in the future.
What happens next?
If your application has been accepted, the lender will provide you with a ‘binding offer’ and a mortgage illustration document explaining terms of your mortgage. You should also get at least a 7 day ‘reflection period’ to enable you to make comparisons and assess the implications of accepting your lender’s offer but the lender usually can’t change or withdraw their offer, except in some limited circumstances such as discovery that you have provided false information in your application.
Do I need financial advice?
Taking financial advice is going to cost you but remember, borrowing large amounts can be a life-changing financial decision so financial advice might save you money in the long run.
Below is a brief outline of what a financial adviser is and when you might use one.
What is a financial adviser?
Throughout your life you're likely to need different financial products. A financial adviser can help you make the right decision about the best product for you. While the advice isn't free, if you're looking at getting complex products, people often recognise the value in paying for an adviser to ensure they get it right.
When would I need to use an adviser?
If you're looking at complex financial products, it can pay to get advice if you're not sure or not confident doing the research yourself. Some of the main products that financial advisers deal with are:
· Equity release
· Protection insurance (such as life insurance, critical illness cover, income protection)
What can I do if I got the wrong advice?
As with all advice, it is not instruction so it does carry some risk. It is important to note that 'low risk' is not the same as 'no risk'.
If you feel you've been mis-advised, you need to collect as much documentation as you can find then write to the firm that sold you the product and explain clearly and concisely why you think the advice you were given was wrong.
If you're not satisfied with the firm's response, you have the right to take your complaint to the Financial Ombudsman Service, which can award compensation. This is a free service. For full details on how to claim, go the Financial Ombudsman Service website