Buying a house for most people will involve a need for a mortgage. The term mortgage usually refers to a type of loan taken out when buying a home. Although a mortgage is a debt until fully paid off, it has become established as one of the most accepted forms of borrowing because it is also seen as a form of investment.
Rising property values have made home ownership a particularly successful form of investment. A mortgage will be secured on the property. If repayments are missed the lender can take legal action to repossess the property.
Homeowners may find it can be in their interest to review the mortgage arrangement periodically to ensure that this remains competitive. There have been a large number of deals available that can make choice difficult. The instability of the global financial situation in 2009 has resulted in some restrictions on availability and reduction in choice. Mortgages are likely to continue to be the main vehicle for the majority of owner-occupiers to finance house purchase.
Where to obtain a mortgage
Organisations that offer mortgages include:-
- Banks
- Building societies
- Specialist mortgage companies
- Insurance companies
- Builders, especially on new estates
- Conveyancers/solicitors – especially in Scotland.
New home scheme (Scotland) and NewBuy scheme in England
The MI New Home scheme is a mortgage indemnity scheme which provides prospective buyers of new build homes a 95 per cent mortgage on homes up to the value of £250,000.
The builders of new homes have to opt into the scheme. It is intended that the scheme will run for three years with a formal review after two years.
The scheme is intended to protect lenders from loss and prospective buyers are not offered any protection. A buyer is assessed by the lender in the normal way and has to meet the lender’s affordability and credit criteria to be eligible for a mortgage of up to 95 per cent. If the lender has to repossess the property and sell it, the client is still responsible for paying any shortfall between the amount owed to the lender and the amount the lender sells the property for.
More details about the scheme are available on the Homes for Scotland website at
The behaviour of mortgage lenders or brokers is regulated by the Financial Services Authority (FSA). You can check on the FSA website that the firm or individual you are dealing with is properly registered. If an organisation breaches their FSA authorisation, then a complaint should be made to the FSA.
When you are looking for advice about the best mortgage product for your purposes you need to be clear what type of advice you receive. Broadly speaking there are 2 types of advisers :-
- Tied advisers present you with a mortgage product from the organisation they represent. Although this may be good advice the options that they can discuss with you are restricted to the products of the company with whom they are tied. This category of advice can include multi-tied advisers who will have links to more than one company
- Independent advisers who will present options from the full range of providers.
Any adviser consulted must provide you with an initial disclosure document entitled “Key facts about our mortgage services” to demonstrate what service is to be provided and the costs of this.
Before you complete a formal mortgage application for a particular product you must be given a personalised “Key Facts Illustration” that clearly sets out the terms and conditions attached to this product.
Mortgage options
There are several different types of mortgage available and the differences are briefly explained below.
Repayment mortgage – In this type of mortgage the payments you make to the lender will include both mortgage interest and the original capital sum borrowed to finance the purchase. The proportion of capital and interest within each payment will change over the life of the mortgage. In the early years of the loan repayments will comprise mostly interest but as the term of the mortgage progresses increasing proportions of repayments will comprise of capital repayment and the mortgage payments will be calculated to ensure that the mortgage will be paid off at the end of the term, assuming that no repayments are missed.
Interest only mortgage – Unlike a repayment mortgage, in an interest only mortgage repayments will only include the interest charges and no capital is repaid. An additional investment arrangement will need to be set up to ensure that there will be sufficient funds to pay off the original sum borrowed at the end of the investment term. There are several types of investment arrangement that can help to achieve this:
- Endowment mortgage – payments are made into an endowment policy with an insurance company. The expectation is that this investment growing should grow sufficiently to pay off the loan at the end of the term. Life assurance is included so that the lump sum is paid off in the event of the death of the borrower.
- Pension mortgages –payments are made into a pension scheme and the fund produces sufficient growth to provide a lump sum at retirement that pays off the loan.
- ISA mortgage – payments are made into an Individual Savings Account that has upper investment limits set by government and which has been designed to grow sufficiently to repay the original capital sum borrowed.
Although investment backed mortgages can provide attractive options for borrowers, there will remain a risk that the investments made will not produce sufficient growth to repay the loan at the end of the term. You will need to monitor the performance of your investment to minimise the risk that you will be required to find the balance from other sources when the time comes for the original capital sum borrowed to be repaid.
- Mortgages are available with flexible terms that will provide borrowers with some options to adjust their repayments to suit their circumstance. Options may include:
- Payment holidays – will allow you to cease payments for a short period, although interest will continue to accrue. This may be helpful during periods where there is a short-term reduction in income for a short time for example during an illness or a period between jobs, where normal income is likely to resume fairly soon
- Underpayments – where normal payments are reduced for a short time for similar reasons to above
- Overpayments – will facilitate earlier repayment of the loan or help to build up a fund for use at a later time through payment holidays or underpayments
- Escalator mortgages – where actual repayments will increase over the lifetime of the mortgage. This can be useful for those at the beginning of their careers where earnings are likely to increase over time
However, with interest only mortgages you would need to ensure that the investment vehicle could be adjusted to make up for the resulting mounting interest debt if mortgage repayments are missed or reduced.
Offset mortgage/all-in-one mortgage
This type of loan offers the possibility of off-setting any savings you have against your borrowing provided you have taken out a loan with the same institution with whom you keep your current account. Your current account balance will vary, increasing when you have been paid or made a deposit and probably decreasing over the course of the month. Because of this the actual size of your debt will vary. You only pay interest on the difference between the outstanding loan and the balance of your savings.
Islamic mortgage
In order to avoid charging interest which is not permitted by the Islamic faith loans are constructed in a different way to provide an alternative way of paying for the home.
Foreign currency mortgage
It is possible to borrow in a foreign or even several foreign currencies to purchase a property in the UK. The purpose of this type of loan is to benefit from a lower interest rate than may be available in the UK. There are some risks associated with fluctuations in the exchange rate of sterling against the other currency or currencies selected and consequently lenders are likely to restrict the borrower to a maximum loan value of 75% of the purchase price.
However, some leading banks are no longer offering this facility as borrowers struggle to meet repayments due to rising costs with a falling pound against foreign currency.
Interest rates
The largest part of the cost of borrowing is the interest charged on the loan. Over the lifetime of the loan you will repay an amount several times the size of the original loan. As a result, the interest arrangements are probably the most important element to consider when looking for a mortgage. There is usually a variation in what is available from lenders. Marketing material will present a wide range of arrangements to consider, including variable rate deals, base rate tracker deals, capped deals, or even mix and match deals. You need to ensure that you clearly understand the type of loan you are being offered and the implications for your own situation. This information must be included in the Key Facts Illustration. You can compare the different deals available by consulting the tables produced by the FSA on their website.
How much can you borrow?
There are two primary factors that will determine the amount you will be able to borrow, the value the property and your income.
The size of loan available will normally depend on the value of the property for security and so your maximum loan is likely to be restricted to a proportion of this value. The actual amount will depend on the valuation carried out by the lender prior to confirming the loan.
The second factor is related to your own ability to maintain the loan repayments. What you can borrow will usually be limited to a multiple of your income (or the income of you and any joint purchaser). You are strongly advised to consider what you feel you will actually be able to afford. This may be less than the maximum a lender is prepared to allow. It is important to remember that your household budget will change once you own your own home you also need to allow for the possibility that interest rates can fluctuate and your monthly repayments could rise.
If you are self-employed you may be able to certify your own income against which your maximum borrowing will be determined. It is important to remain realistic and avoid the temptation to overestimate your income to maximise the size of the loan. Your home is at risk of repossession if you cannot maintain the payments on the loan.
Paying off your mortgage
The mortgage will normally be discharged by your final payment. Paying off your mortgage early will often carry a charge for this facility, but you should have been advised of this at the outset. Although this may not apply if you are repaying the mortgage at the end of the term of the mortgage, changing to different product or provider may require some form of early settlement fee. Check your agreement first so you are clear about the implications of early repayment.
If your house is registered with the land registry details of any mortgage charge on the property will be held on the register. This charge will need to be removed to confirm your full ownership of the property. This process will need to be completed by solicitors in Scotland as it is too complex for an individual.
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Useful websites
Land Registry (Scotland)
Erskine House
68 Queen Street
Edinburgh
EH2 4NF
Tel: 0845 607 0161 (Mon-Fri 8.30am-4.00pm)
Textphone: 0845 607 0168
Fax: 0131 200 3932
E-mail: customer.services@ros.gov.uk
Website: www.ros.gov.uk
or telephone Customer Support on: 0844 892 1111
