Types of mortgages

Are all the different types of mortgages shown on TV, in the press and the constant leaflet drops driving you ‘bananas’?

Let The mortgage monkey “peel” away the jargon and explain the variety of options!

Types of mortgages

Current Mortgage Rates vary on a daily basis. There are a vast variety of types and structures of mortgages available in the mortgage market. Gone are the days when you had only a couple of options!

Increased competition has led to “sexier” mortgage offerings with increased flexibility. Mortgages have evolved through consumer demand and product development. However, this has unfortunately led to increased confusion for the consumer over the variety of mortgages available and how they operate.

The mortgage monkey has therefore summarised the main types of mortgages below to help provide clarity in this ever-increasing and diversified market.

Each chart below will give you a brief description as to how the mortgage works, the likely charges if you repay your mortgage early and an “Is it for you?” decision statement.

You should speak to one of our experienced consultants to help explain this “Jungle” of terminology. CONTACT US

Fixed Rate

How it works	Your payments are set at a certain level for a set period of time (eg: 4.99% fixed for 2 years). Unless the rate is fixed for the whole term of the mortgage, you usually revert to the lender's standard variable rate at the end of the fixed rate period.
Early repayment charge?	During the special deal period? Yes, with most loans. For some time after the end of the special deal? Yes, with some loans.
Is it for you?	Yes, if you want to know exactly how much you will pay for a specified period. Yes, if you think mortgage rates will rise and you wouldn't be able to afford the increased mortgage payments. No, if you think mortgage rates will fall (and can afford the increased mortgage payments if you are wrong). Possibly not if you want to make overpayments or repay the mortgage early without paying an early repayment charge.

Discounted rate

How it works	Your payments are variable, but they are set at less than the lender's standard variable rate for a set period of time. At the end of this period, you usually revert to the lender's standard variable rate.
Early repayment charge?	During the special deal period? Yes, with most loans. For some time after the end of the special deal? Yes, with some loans.
Is it for you?	Yes, if money is tight when you first take out the mortgage, but are confident your income will increase and you can afford the increased payments when the discount period ends. No, if you won't be able to afford the mortgage payments when the discount period ends. No, if you wouldn't be able to afford the mortgage payments following a big rise in interest rates.

Capped rates

How it works	Your payments are variable and often linked to a base rate, but fixed not to go above a set level (the 'ceiling' or 'cap') during the period of the deal. At the end of the period, you usually revert to the lender's standard variable rate.
Early repayment charge?	During the special deal period? Yes, with most loans. For some time after the end of the special deal? Yes, with some loans.
Is it for you?	Yes, if you like to know the maximum you will pay over a set period. Yes, if you think mortgage interest rates might rise above the cap. Yes, if you want the security of knowing that your payments can't rise above the set level, but still have the chance of benefiting from any falls in interest rates. No, if you can find a fixed rate set at a lower rate than the cap and you think rates are unlikely to fall below the level of the fixed rate deal.

Standard variable rate with ‘cash back’

How it works	Same as standard variable rate loan (see below) but you receive a substantial sum (eg: 3-5% of the amount borrowed) shortly after you take up the loan.
Early repayment charge?	Yes, you will normally have to repay some or all of the ‘cash back’ if you repay the mortgage in the early years.
Is it for you?	Yes, if you need a large cash sum - for example, to buy furniture. Yes, if you expect the cash sum to more than compensate for any interest rate rises during the penalty period. No, if you would be unable to cope with increased payments due to rising interest rates. No, if you can manage without the ‘cash back’ now and can get a better overall deal elsewhere.

Standard variable rate

How it works	Your payments go up or down when the lender's mortgage rate changes. (Mortgage rates tend to move in line with the Bank of England base rate but there is sometimes a delay).
Early repayment charge?	Not usually except when offered with a large ‘cash back’ deal.
Is it for you?	Yes, if you can afford to pay more when interest rates go up and like the flexibility to be able to make overpayments without penalty (assuming there are no restrictions on making such payments and no early repayment charges apply). No, if you would be unable to afford the increased payments.

Tracker rate

How it works	A variable rate loan where the interest rate is at set amount above or below the Bank of England or some other base rate, and so always 'tracks' changes in that rate.
Early repayment charge?	During the special deal period? Yes, with some loans. For some time after the end of the special deal? Yes, with some loans.
Is it for you?	Yes, if you can afford to pay more when interest rates go up and want to be sure that falls in interest rates are passed on to you in full. No, if you would be unable to afford the increased payments if interest rates rise.

LIBOR rate

How it works	A variable rate loan where the interest rate is a set amount above or below the London InterBank Offered Rate – ‘LIBOR’ – which is the rate at which banks borrow from and lend to each other. Unlike the Bank of England Base Rate which usually changes (if at all) on a monthly basis, LIBOR changes daily.
Early repayment charge?	During the special deal period? Yes, with some loans. For some time after the end of the special deal? Yes, with some loans.
Is it for you?	Yes, if you can afford to pay more when interest rates go up and want to be sure that falls in interest rates are passed on to you in full. No, if you would be unable to afford the increased payments.

Offset mortgage

How it works	Your main bank current account(s) or savings account(s) - or both - are linked to your mortgage (and are usually, but not always, held with the mortgage lender). Your current &/or savings account(s) do not earn any interest. Instead, each month, interest (usually the lender’s standard variable rate) is only charged on the difference between the mortgage amount and the balance(s) of your current &/or savings account(s). So, as your current account and savings balances go up, you pay less interest on your mortgage. As they go down, you pay more.
Early repayment charge?	Not usually.
Is it for you?	Yes, if you are a higher rate taxpayer, have substantial savings to offset and like the idea of the built in flexibility to make overpayments and underpayments. Possibly not, if after paying your deposit you don’t have much left in savings, and if other mortgages have a lower interest or other features which are more important to you.

Current account mortgage

How it works	Similar to an offset mortgage in that it ‘offsets’ the balance of your ‘savings’ against your mortgage. However, rather than your mortgage and current account being separate ‘pots’ of money, they are usually combined into one account. This means that the account acts like one big overdraft. The mortgage lender will draw up a plan which includes the minimum amount you should leave in your account each month to repay your mortgage over the agreed mortgage term. If you leave more than this in your account then you pay less interest and may pay your mortgage off early, but if you leave less in your account each month, you will end up paying more for your mortgage.
Early repayment charge?	Not usually.
Is it for you?	Yes, if you are a higher rate taxpayer, have substantial savings to offset and like the idea of the built in flexibility to make overpayments and underpayments. Possibly not, if after paying your deposit you don’t have much left in savings, and if other mortgages have a lower interest or other features which are more important to you.

Flexible mortgages

Some of the above types of mortgages can also offer a degree of flexibility, although the extent can vary from one lender or product to another. As a general rule of thumb, the more ‘attractive’ the deal, the less flexibility offered. Fully flexible mortgages tend to operate at the lender’s standard variable rate.

A flexible mortgage gives you some scope to change your mortgage payments to suit your ability to pay. It's also useful if you want to pay off your loan more quickly.

Several flexible features are becoming increasingly common and they are not necessarily confined to loans that have 'flexible' in their name.

Consider which of the features below are important to you.

Overpayments

You can pay more than the normal monthly mortgage payment and/or pay off extra chunks of the loan. The overpayments can have two effects:

You could benefit straight away from lower monthly interest payments (because the amount you owe is now less); or
You could continue paying at the higher level and pay off your loan more quickly. Sometimes you can cut years off your mortgage if you overpay regularly.

To get the benefit of overpayments straight away, choose a mortgage where interest on what you owe is calculated daily or monthly.

True flexible mortgages will not have penalties for making overpayments. However, with some other mortgages, especially fixed rate mortgages, you may have to pay an early repayment charge if you overpay by more than a certain amount. This will be detailed on your mortgage offer.

Underpayments and payment holidays

You pay less than the normal monthly payment for a limited period (eg: 6 or 12 months). You may even be able to take a ‘payment holiday’ and stop making payments altogether for a while. This could be useful if, say, you lose your job or take maternity leave or a career break.

In either case, most lenders require you to have built up some overpayments first. While you are making underpayments or taking a payment holiday, interest continues to be charged and added to the outstanding loan. This means that you will have to pay higher repayments in future to get back on track, or you might need to extend the term of your mortgage to keep the normal repayments affordable. Either way, you will usually end up paying more for your mortgage in the long run.

Borrow extra (sometimes called 'loan drawdown')

This facility enables you to borrow extra without further approval from your lender, provided the total loan does not go over a pre-set limit. Alternatively, you may be able to 'borrow back' against earlier overpayments. With a more traditional mortgage, you usually need to apply for a top-up loan (also known as a further advance) which could take longer to arrange.

These flexible features are just some aspects of a mortgage. You also need to consider the other features, the cost of the mortgage, and the type of interest rate.

Is a Flexible mortgage right for you?

Yes, if you are likely to use these features.

Possibly not, if you are unlikely to use these features. A mortgage that is not as flexible may be cheaper or more suitable for you because, for example, it charges you a lower interest rate, or offers you the security of fixing your payments for a period of time.

Once you and our consultants have decided which type of mortgage is right for your circumstances, you will need to decide on which basis the mortgage is set up. You have three choices: