Repayment Mortgages Information

This article is aimed at homebuyers in the UK who are interested in buying a home and looking at the different types of mortgages available in the UK. Each country has different products and different legislation so what might be correct for the UK may not be relevant in France or the USA for example.

In simple terms, there are two types of Mortgage. Either an Interest only mortgage or a Repayment mortgage. There are however, subdivisions within each type of mortgage. Within this article, I will discuss what a Repayment Mortgage is in a clear and concise way.

Of course, this is very general advice and each type of mortgage may be appropriate for some people and not others depending upon their personal circumstances. What you must do after reading this, is to go to other websites and also to talk to Independent Financial Advisors. If you don't understand, then ask and make them explain until you are perfectly clear. This is probably the largest financial commitment you will ever make so it is important that you get it right.

Repayment Mortgages are also known as capital mortgages. With these types of mortgages, at the end of the mortgage term (the length of time you take out the mortgage), so long as you have made all the payments, the house is yours guaranteed.

Your mortgage payments you make every month will pay off part of the capital every month (the house itself), but also a portion of the interest which the lender charges you for the loan every month.

Usually, in the beginning of the mortgage, most of your payment will be interest with only a very small portion being the capital. Until at the very end of the term of the mortgage, you will be paying mostly the capital and very little interest.

This is why it is very beneficial to make overpayments if it is possible in the early stages of the mortgage as opposed to the end. However, most of us tend to struggle to make the payments at the start of the mortgage than at then end.

The way that most lenders work out how much interest you pay through the loan is through a technique called The Rule of 78. Not being much of a mathematician, I can't explain it very well, but if you do a Google search on it, then you will find loads of information on it. Essentially, all you need to know is that you pay more interest at the beginning than at the end as per the example below.

These numbers are for illustration only and as I said, not being much of a mathematician, they are just made up.

If you take out a mortgage to buy a house for ¤100,000 for 25 years, and we assume that the interest rates stay the same for the whole 25 years, then you would make a payment of ¤800 every month for those 25 years.

In the 1st year, that ¤800 would consist of ¤780 of interest and ¤20 of capital (scary isn't it).
In the 2nd year, that ¤800 would consist of ¤760 of interest and ¤40 of capital
In the 3rd year, the ¤800 would consist of ¤740 of interest and ¤60 of capital
Until the final year when most of it would be capital. As it said, these figures are made up but hopefully illustrate the point.

There are different types of repayment mortgages which refer to the amount of interest that you are paying. They are as follows.

Fixed Interest Repayment Mortgage

This is where the interest rate are charged is fixed for a period of time. Usually, this is for 1 - 5 years although there are now some lenders who will offer you a 10 year fixed interest rate. Essentially, what happens, is that your repayments are fixed for the period so this way, you know exactly how much you will be paying every month until the Fixed Term runs out. At which point, the mortgage will then default usually to a variable interest repayment mortgage but there is usually no reason why you can't take out another fixed interest mortgage straight away although you would have to take the terms offered at the time.

The risk with this type of mortgage, is if the Bank of England drops it's interest rate, then you will still be paying the same amount of interest as before, but vice versa, you may be paying less if the interest rates goes up. The main advantage though, is that you know exactly what you are paying each month which is probably sensible if you would struggle to pay the higher repayments.

Variable Interest Repayment Mortgage

This is where the interest rate goes up and down as and when the lender changes it which normally happens when the Bank of England changes its interest rate. This is great when the rate goes down as you'll usually see your mortgage repayments drop shortly afterwards. However, if the rate rises, then so will your repayments.

Discount Interest Repayment Mortgage

These mortgages start off with an initial period of low interest rates which is very handy if you're a first time buyer as initially, you'll have money flying out of your wallet as you buy all new things for your house and spend a fortune on decorating etc. However, when the discount period finishes, you'll possibly end up paying for that initial cheap period as the lender claws back the money it has lost. Very often, there is little you can do to get out of the deal as there will be various financial penalties to leave this mortgage.

Capped Interest Repayment Mortgage

This type of mortgage follows the Bank of England Base rate as it goes up and down until it reaches a ceiling figure from which it won't go above. So, if the ceiling is 5%, then if the Variable rate that the lender is offering, is less than 5%, then you'll be paying whatever that lower figure is. If however, the value is greater than 5%, then you will only pay 5% until the interest rate goes down.

As you can see, it is quite complicated although if you think about your personal situation, i.e. can you afford to make the repayments should the interest rate rise, then you will probably make the right choice. Again though, you need to shop around as each lenders products while they will fit into one of these categories will be subtly different. With the internet, it is very easy to see what each product will cost you from the lenders website. Also, talk to an Independent Financial Advisor as they will hopefully do most of the hard work and may be able to find good deals. Also, they will be able to explain what each product is clearly. Don't worry about them charging you for their services, usually, they are paid by the lenders who offer them a finders fee.

Don't forget, there are also Interest Only Mortgages which I will cover in another article.