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What is a mortgage?

A mortgage is likely to be the largest sum of money you will borrow in your lifetime. So what is it? And how does it work?

What is a mortgage?

A mortgage is a loan, but with property used as security. A bank or building society will lend you money to buy a property or a plot of land, and you agree to regular payments to repay the loan over a set period of time, plus interest.

Unless you are a cash buyer, you will almost certainly need a mortgage in order to get onto the property ladder.

Key features of a mortgage

So what are the key things that you need to know about mortgages?

  • Mortgages come with different loan periods. The typical loan period is 25 years; however, as properties have got more expensive, some lenders are offering longer loan periods of 30 or even 35 years in order to give more time to repay the debt. Alternatively, if you are nearing retirement and need only a small mortgage, then you can opt for a shorter period.
  • Mortgages require a deposit. Almost every mortgage in the UK requires some sort of a deposit. You may have seen the term ‘LTV’ attached to a mortgage product. LTV is the loan-to-value ratio – basically, how much your deposit needs to be for that mortgage. So for an 80% LTV mortgage, you will need a 20% deposit.
  • There are different types of mortgage products: fixed-rate, tracker, buy-to-let, discount, and standard variable rate mortgages, etc. What type of mortgage you have will determine your interest rate and whether this will fluctuate during the term of the loan. Mortgages also typically come as two-, three-, four-, five- or 10-year products. So, for example, you could take out a three-year fixed-rate mortgage, which means that your interest rate will be fixed for three years. At the end of the three-year period, your interest rate will default to the bank or building society’s standard variable rate. Borrowers typically remortgage once their mortgage period has ended.
  • Finally, a lot of mortgages carry an early repayment charge. This is a penalty fee you will be charged if you pay off your mortgage ahead of time or try to change your mortgage before the end of the agreed period.

How does a mortgage work?

If you are a first-time buyer, then the process is quite straightforward. You will need to be approved for a mortgage by a lender and then put down the agreed deposit. Then it is just a case of making your monthly mortgage payments as agreed, including interest, until the end of your chosen mortgage product’s term.

If you are looking to move or sell your house, then things get a little more complicated. Many mortgages will allow you to ‘port’ them to a new property, essentially moving the mortgage from one property to another. However, you effectively have to reapply for your mortgage, so you will need to show your lender that the monthly payments remain affordable. If you are looking to borrow more money to move to a new home, you can ask your lender for additional funds. But be warned, any extra borrowing may be at a different rate. If you are not tied to your current mortgage deal and there aren’t any early repayment charges, then you can just remortgage with another lender.

The most important thing to note, though, is that it is essential to keep up with your mortgage repayments. If you do not, the lender may repossess your property and sell it to clear the debt.

Educating yourself on personal finance and understanding the financial products that you use everyday can make the difference between comfortable finances and constant stress. At MyWalletHero, we aim to make learning about personal finance rewarding and fun.

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