One of the most bewildering things about buying a new home is the vast array of mortgage options available. Here we look at some of the most common, and provide some insight into who they might be suitable for.
Fixed rate
A fixed rate mortgage is, as the name suggests, a product where you pay the same static interest rate over the course of the life of the product. The length of these products varies, but they are typically offered in blocks ranging from one year, up to as much as 10 years and sometimes longer. Fixed rate products are ideal if you prefer to know exactly how much you will have to pay each month.
Another advantage for younger people is that, assuming your circumstances remain constant, the chances are your salary will improve as you move up the career ladder, making your mortgage more affordable.
Variable rate
A variable rate mortgage is one where the rate paid is guided by the Bank of England base rate. This is usually at a level around 1% to 3% higher than the base rate, although it can vary over the term of the product. Variable rates offer homeowners the benefit of flexibility as they are not tied into a defined period, like a fixed rate mortgage.
However, interest rates are not easy to predict and can change rapidly due to a number of factors including the anticipated rate of inflation, the strength of economic growth and the relative value of the currency to other foreign currencies. These products are normally available with higher loan to value ratios, making them more popular for those who have smaller deposits and are trying to get into the property market for the first time.
Capped rate
Capped rate products offer the benefit of protection against future rate rises as a ceiling on the rate you pay is set which cannot be breached no matter how high rates go. In addition, should interest rates fall, you are also able to capture this benefit. The shortcomings are that these products often come with a hefty fee for the apparent win-win situation they offer, and so-called ‘lock in’ periods. So when considering a capped product it is always important to factor in the total cost of the offering.
Discounted rate
Discounted rate mortgages offer a reduction against the lender’s standard variable rate for a certain period, after which the mortgage rate returns to the standard variable rate for the remainder of the life of the product. Customers looking at this type of product will need to ensure they can budget for the eventual change in rate they will have to pay. Obviously, the standard variable rates offered by banks can fall too. However, trying to predict the direction of interest rate moves is something that scores of economists fail to do every year and is a risky strategy.
Tracker
A tracker mortgage is one that is directly linked to the Bank of England base rate or some such similar rate such as LIBOR, which is best described as the rate at which banks lend to each other in the UK. The benefit of a tracker mortgage is that the link to the base rate remains fixed for the life of the product. This means that as the base rate rises, you pay more. However, should the base rate fall, you will pay less at the same fixed level above the base measure.
Interest only
Interest only mortgages allow the customer to pay off the interest charged by the lender without the requirement to repay the original capital borrowed. Customers that opt for an interest only mortgage will typically use an investment vehicle such as an endowment to earn a return to repay this capital portion. These types of arrangements are popular with those who feel they have an insight into the performance of their chosen investment vehicle. However, there is always a possibility that the final return may actually leave a shortfall to pay at the end of the term of the mortgage.
This is just a basic overview of the types of products that are available. To find out which is suitable for you, we would recommend that you contact a specialist mortgage adviser.