The Types of mortgage

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by: Kate Tee
Date of publish : Apr 11th 2009
Total views: 56
Word Count: 811

Fixed rate mortgage

As the name suggests, these offer the stability and reassurance of a fixed rate of interest, generally for the first two to five years of the mortgage term. A fixed rate should help with your budgeting during the early years of your commitment, especially if your budget is tight. The risk – of course – is that market interest rates actually fall during this period, when you’re still committed to paying your mortgage at the higher rate. Normally, the fixed rate mortgage converts to a standard variable rate mortgage after between two and five years.

Variable rate mortgage

This is the 'standard' type of mortgage and as such attracts the lender’s standard variable rate of interest (SVR). The SVR will rise and fall according to fluctuations in the market. If the Bank of England chooses to raise the base rate of interest, your SVR is also likely to go up – and vice versa. In other words, your mortgage will become more or less expensive, depending on fluctuations in the market.

Discount rate mortgage

Here, the rate of interest on your mortgage is offered at a discounted rate for a fixed period. The discount relates to the lender’s prevailing SVR – so if you are offered a 1% discount, for example, and the SVR is 6%, you pay only 5%. If the SVR falls to 5%, you’d pay 4%. During this period your repayments will rise or fall according to the market, and will continue to do so at the end of the discount period, when your mortgage reverts to the standard variable rate.

Cashback mortgage

A cashback mortgage provides a lump sum back to the borrower when you take the mortgage out. This can be either a fixed sum or a percentage of the total that has been borrowed (usually, between three and six per cent). The disadvantages are the relatively higher monthly repayments, and the fact that if the borrower decides to repay the whole of the mortgage within a given number of years (say, three to five years), then the cashback also has to be repaid.

Flexible mortgage

Flexible mortgages would suit borrowers who expect intermittent changes in their financial circumstances – the self-employed, for example – who can sometimes afford to make overpayments but might equally need to pay less and take a 'repayment holiday' (provided a 'reserve' of overpayments has been built up initially). Most set interest rates on a daily or monthly basis to encourage overpayments, which in turn will reduce the life of the mortgage and thus achieve savings. Cheque books are often provided and allow the drawing down of an agreed additional advance. Flexibility comes at a price however, and you would expect to pay a higher rate of interest on a flexible mortgage.

Capped rate mortgage

A capped rate mortgage combines the benefits of both the fixed rate and discount rate mortgage. A maximum rate of interest is guaranteed for a given period of time. If the SVR falls below that rate, however, you pay the lower rate. So your interest rate may vary, but will not exceed the agreed 'cap'. Some capped mortgages have not just this upper limit but also a lower limit, below which the rate payable may not fall. Such mortgages are known as 'cap and collar' mortgages.

Current account mortgage

Combing your current account with your mortgage results in a very large overdraft, and keeps almost all of your finances in the one place. The advantage lies in being able to use any funds in your current account to set against the outstanding mortgage in your 'overdraft'. If your mortgage is for £200,000, for example, but you had a £4,000 surplus in your current account, you would only pay interest on the net balance of £196,000 and could therefore pay off the mortgage more quickly. You might consider it unhelpful, however, to be locked into such an arrangement for all your banking needs and the flexibility of the mortgage comes at the price of a generally higher rate of interest. To get full value from the extra you’ll be paying in higher interest –therefore a current account mortgage is only likely to benefit you if you maintain a consistently positive and sizeable current account balance.

Offset mortgage

Rather similar to a current account mortgage, an offset mortgage also allows you to use any credit balances and savings to offset – or set against – your mortgage debt. In this case however, the accounts can be maintained separately. Once again, the higher rate of interest at which any offset mortgage is likely to be offered means that you are only likely to benefit from the added flexibility if you already have or can reasonably anticipate significant credit balances and savings.

About the Author

Find out more about types of mortgage at http://www.confused.com/mortgages

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