Mortgages: a basic introduction
Updated: Mar 2, 2021
It’s a big loan to help you buy a property
A mortgage is a loan you take out to buy a property. You usually borrow the money from a bank or building society, aka the lender. But the lender doesn’t own your home. You do.
You need a deposit to get one
To get a mortgage, you’ll need a big upfront payment, called a deposit, which is usually a minimum of 5%, ideally 10%, of the total price of the property you want to buy. The bigger the percentage you come up with upfront, the less of the loan you have to pay off over the mortgage term. Plus, many mortgage rates reduce for every 5% you can put down in your deposit.
Your mortgage can be between 5 and 40 years (most go up to 35). The number of years you take to pay back your loan is called your mortgage term. It’s usually best to take the shortest term you can afford. The shorter the term, the more you pay off each year and the sooner you become mortgage-free.
A shorter term usually means bigger monthly payments, as you have to pay off more of the loan each month. But it might mean a lower total cost over the life of your loan – ie the total you’ll have paid at the end of your term, as you’ll probably have paid less in interest. A mortgage broker will be able to help you work out the best term for you.
Interest vs repayment
You can choose how to pay your mortgage back:
Interest-only: (though this is near impossible for first time buyers) every month you only pay the interest on your loan. Your monthly payments will be lower, but they won’t make a dent in the loan itself. At the end of the term, you’ll get a bill for the total loan amount, which means you’ll either need to have saved up in the meantime, or sell your home to pay it back.
Capital and interest, aka repayment: every month, you pay an amount off the debt itself (the capital) and the interest as well. Month on month, your balance (the amount left on your loan) will go down and by the end of your term, you’ll have paid the loan off in full.
Fixed rate vs variable rate
You can also choose the type of interest rate you’d like applied to your loan. Broadly, there are two types: - Fixed rates, that guarantee exactly what you pay over a particular length of time, eg 3 years or 5 years - Variable rates, that tend to be cheaper (though that’s not always the case) but are less predictable
What if I can’t pay it back?
A mortgage is ‘secured’ against the property you’re buying. That means if you stop paying back the loan, the lender can repossess your home. Usually, they’ll step in to try to help you pay it back first – if they can’t, they may repossess your home to get back the money.
Freehold vs leasehold
There are three main ways to own a property:
Freehold: you own the land and everything on it (eg the building you’ll live in, the garden, garage, etc).
Leasehold: you own your property, but not the land it sits on. When your lease runs out, you have to pay the freeholder to add years to it. The maximum amount of time you can have on a lease is 999 years – then once the lease drops to below 85 years fewer lenders start offering mortgages on those properties. There are often cost implications in leasehold too, with ground rent and service charge to pay, and charges if you want to extend the lease. If you’re buying leasehold, it’s a good idea to seek legal advice to understand all the costs involved.
Share of freehold: you’ll be a leaseholder, but part of a group of leaseholders that together control the freehold. You’ll often find this is the case in a block of flats – when it’s time to make decisions about the building or the garden, you can get together and vote on it. And like in leasehold, there may well be service charge and ground rent costs on top of your mortgage.
What’s a mortgage in principle?
If you don’t have a specific property in mind, that’s OK. You can still start thinking about your mortgage in broad terms, and apply for a mortgage in principle to give you peace of mind that your budget is accurate and to give estate agents when you start bidding on a new home. But you won’t be able to apply for a mortgage until you’ve found a specific home to secure the loan against.
Extra support for first time buyers
If it’s your first time buying, you can get government support to help you buy your home, especially if you have a limited deposit.
In a nutshell
A mortgage is a long-term loan. It’s designed to help you buy a property. It can sound complex and scary but it doesn’t have to be.