How Much Will Your Mortgage Cost?
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When it works well, a mortgage is a marvellous beast. You want to own a home, but don't have enough money to buy it outright. So, you put down a deposit and then take out a secured loan for the remainder. House prices tend to rise over time; the post-war average is about 8.5% a year. Thus, after 25 years or so, you end up owning an asset which is worth several times its purchase price. Lovely!
However, they say there's no such thing as a free lunch, and there are a few flies in this particular ointment. First, a mortgage isn't an interest-free loan -- if only! Mortgage lenders are businesses, not charities, so they aim to make a decent return on any money lent to borrowers. Thus, homeowners pay a market rate of interest on their home loans.
In addition, mortgage borrowers must bear other charges, such as:
• application, booking or reservation fees;
• deeds release, exit, sealing or discharge fees, alias ‘mortgage exit arrangement fees' (MEAFs);
• higher lending charge (HLC) or mortgage indemnity premium (MIP); and
• valuation or survey fees.
You can learn more about this feast of fees in Your Easy Guide To Mortgages and Your Easy Guide To Mortgages, Part 2.
The largest of the above levies is likely to be the upfront arrangement fee, which can add thousands to the cost of your loan. For example, a fee of 1.5% would add £2,250 to the cost of a £150,000 mortgage. What's more, if you add this fee (and others) to your loan, then you'll pay interest on it over 25 years.
When it comes to weighing up the affordability of a mortgage, most homebuyers don't look much beyond the monthly repayments. However, you should take all fees, charges and interest into account before making a decision on which mortgage is best for you.
What does it all add up to?
Let me show you just how the cost of a mortgage can stack up over its typical 25-year life. Let's assume that you borrow, say, £150,000 over 25 years on a property costing £200,000. As you're borrowing three-quarters (75%) of the value of the property, you're unlikely to pay a higher lending charge, which is good news.
As you want to guarantee that your home loan is paid off at the end of its life, you opt for a repayment mortgage, where you repay both interest and capital every month. Now let's assume that you sign up for a fixed interest rate of 6% a year for the life of your loan. Also, you decide to add the arrangement fee of 1.5% (£2,250) to your loan, to be repaid over the life of your mortgage.
In this example, here's how your monthly mortgage repayments stack up:
Advance
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£150,000
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Arrangement fee (1.5%)
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£2,250
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Total loan | £152,250 |
Interest rate
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6% fixed for 25 years
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Monthly repayments*
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£966.45 x 300
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Total amount repaid | £289,935 |
*Source: Fool.co.uk's mortgage calculator
So, you borrow £150,000 plus the arrangement fee of £2,250 and make three hundred monthly repayments of £966.45. As you can see, the total amount repaid is close to £290,000, or almost double (193%) what you borrowed to buy the house.
Of course, as your interest rate increases, so too does the total amount that you repay. Let's redo the above example with a mortgage rate more appropriate to the Eighties and Nineties, say, 10% a year:
Interest rate
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10% fixed for 25 years
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Monthly repayments*
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£1,363.05 x 300
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Total amount repaid | £408,915 |
*Source: Fool.co.uk's mortgage calculator
When your interest rate is fixed at 10% a year, the total rockets to £408,915, made up of your loan of £152,250 plus a further £256,665 in interest. In this example, you pay back almost £120,000 more than when your rate was 6%. Thus, you can see what a major impact interest rates have on how much you repay during the life of your mortgage.
At present, the Bank of England's base rate is fairly low in an historical context, just 5.25% a year. In the past two decades, the base rate peaked at 15% between October 1989 to October 1990 and, more recently, at 7.50% between June and October 1998. Indeed, the base rate today is as low as it was at any point between 1987 and 1997.
So, enjoy today's relatively low mortgage rates while you can. The collapse of the inter-bank lending market (and with it, Northern Rock) has significantly pushed up the cost of borrowing. Furthermore, as Donna Werbner warned in Death Of The Cheap Mortgage Deal, banks are pulling mortgages by the thousand and turning away new borrowers in droves. So, make the most of today's mortgages while you can, because tomorrow's market will be far less attractive!
More: Use our award-winning mortgage service for your ideal home loan | Is Your Endowment A Letdown? | A Mortgage With No Monthly Repayments!
