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A mortgage is simply a house purchase loan, which is paid back with interest over a long period using your home as security (guarantee of repayment). With all the different products on the market these days, though, it’s no wonder many people are baffled and aren’t sure which to choose. We’ve made it simple to understand here with this introductory guide to interest repayment rates and methods of repayment. Interest repayment rates Standard variable rate – as the name suggests, this type of rate varies, normally depending on the Bank of England’s current base rate (although the rate is set by the lender). This means that at times of high interest rates, you’ll have more to repay each month – but on the other hand it also means that you’ll have lower monthly repayments should the rate decrease. On the whole, mortgages with standard variable rates don’t tend to charge a penalty for paying a single lump sum towards the repayment total. Cash back with standard variable rate – sometimes used by lenders as an attractive special offer, such rates offer a sum of money on completion of the mortgage. If you don’t have any savings to decorate, renovate or furnish your new home, you might find a cashback deal helpful. However, they can turn out to be nothing more than expensive loans, depending on the interest rates. You could be better off arranging a personal loan separately if you need the cash. Tracker – similar to standard variable rate, a tracker rate changes according to the Bank of England base rate, although it is set at a fixed amount below or above the base rate. Fixed rate – with a fixed rate mortgage, the rate is set at a fixed rate for a defined period of the mortgage term. After the defined fixed rate period, it usually switches to the standard variable rate set by the lender. Fixed rate mortgages have their advantages and disadvantages. As a fixed rate does not take into consideration any fluctuations in the Bank of England base rate, you could find yourself paying either more or less in your monthly repayments than you would have done if you had gone with a variable rate, depending on what level your rate is set at. Fixed rate mortgages can be helpful for people whose finances are tight and who want to know exactly what their monthly outgoings towards their mortgage will be in order to help them budget. Bear in mind that fixed rate mortgages sometimes incur a penalty charge if you leave during the fixed rate period. Always read the small print carefully. Capped rate – another type of variable rate, but one that does not rise above a specified maximum level. The benefit of this is that you’ll pay less if the base rate is low, but you won’t have to worry about having to pay too much if there is a rise in interest rates as your rate won’t go above the maximum level. Again, capped rates tend to apply for limited periods before changing to the standard variable rate set by the lender. You can clearly see with a capped rate mortgage what the maximum monthly repayment will be, helpful for those on a budget at the start of their mortgage term. Collared rate – whereas capped rates specify a maximum interest rate level, collared rates specify a minimum. You’ll normally see collared rates offered in conjunction with capped rates. This can be helpful as it allows you to see the minimum and maximum that you’ll be paying, but if the base rate goes below the minimum collar during the collared rate period, you won’t benefit. Discount or special offer rates – from time to time some mortgage providers offer attractive interest rates for a fixed period. Always check what the rate will change to after this – the deal may not be as good as you think. Repayment methods Capital and interest – sometimes referred to as repayment mortgages, part of the monthly repayment goes towards paying off the capital, so that the amount you owe on the capital is very gradually reduced, and the other part is interest on the capital. As the loan term progresses, the ratio of capital to interest in your repayments gradually switches, and towards the end of the term most of your monthly repayment will be interest on the loan. Interest-only mortgage – with interest-only mortgages, you make all your repayments towards the interest alone. None of the capital is paid off. In order to pay off the capital a separate policy is required in the form of an investment or endowment (towards which you make regular payments) which will mature at the end of the mortgage term in order to allow you to pay off the capital. The risk with this type of mortgage is that if the funds in your policy don’t perform well enough to have raised a sufficient amount to repay the capital in full by the end of the term, you’ll need to find another means of repaying the deficit. Remember When you take out a mortgage your home will be used as security or guarantee to the lender for the repayments. If you fail to maintain your repayments your lender may repossess your property – you could therefore lose your home.
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