The Different Types of Mortgages Available to the Home Buyer
There are many different types of mortgages available to the house buyer, and as well as different mortgage products, there are various ways in which interest on the mortgage is calculated and repaid. It can be very complicated and difficult to decide which mortgage best suits a home buyer's particular financial circumstances. The type of mortgage that will be most suitable will also depend on the house buyer's future plans for the property; whether they intend to sell within a short period of time, whether they intend to rent out the property (most standard mortgages do not allow the home owner to rent the property and so a particular mortgage for landlords is required).
Most people decide to take out a fixed rate mortgage so that the interest rate is fixed at a particular percentage of the loan for the entire length of the mortgage period. This ensures that the borrow knows exactly what he or she must pay each month and it is much easier to budget for the mortgage repayments. This type of mortgage is therefore the most popular for this reason and about 75% of all mortgages taken out are fixed rate type mortgages. The mortgage period can be ten years, fifteen years or even thirty years. The advantage of this type of loan is that the borrower knows exactly what she or he must repay each month for the set time frame. The disadvantage is that these types of mortgages usually have a higher interest rate than other mortgage products and because the interest rate is fixed for a set number of years, if in that time the interest rate goes down, the home owner is stuck making higher payments than might be available with other mortgage products.
An Adjustable Rate Mortgage or ARM typically has a set time period at the start of the loan (usually a year or two) when the interest rate is fixed and often at a lower rate than the current market interest rates. However after this period the interest rate changes with the market rate and so repayments after the initial introductory period will be higher. With a one year adjustable rate mortgage, the interest rate changes each year after the initial fixed rate period. This type of mortgage carries a lot more risk as the borrower does not know from one year to other what the interest rate will be and consequently what his or her monthly repayments will be. This makes budgeting for the mortgage repayments much harder. Because this type of mortgage carries an additional risk, the house buyer can usually borrow more money and so afford a more expensive house. Often caps are put in place so that the interest rate cannot go up or down outside certain parameters. There are also three and five-year adjustable rate mortgages.
For those considering reselling or refinancing within a short period of time, a two-step mortgage might be a better option. This type of mortgage has a fixed interest rate for the initial phase of the loan and then another interest rate for the remainder of the loan period. The interest payable will be determined by the current market rates and so the home buyer risks the interest rate going up after the initial fixed period. But if the borrow is planning on selling the property before this adjustment date then this might be a good option to secure a mortgage at a low interest rate.
Home buyers can also decide to go for an interest only mortgage whereby he or she only pays back the interest on the loan each month. The principle loan amount is not paid back at all during the mortgage period and so when the mortgage expires, the borrower still owes the full capital amount of the loan. This has the advantage of lower monthly repayments, however at the end of the mortgage period, the home owner must find a way to pay back the original loan amount, usually through the means of some investment product such as life insurance or an endowment policy. However, if the investment product has not performed well or the market as a whole has suffered, the home owner may not get enough funds from the investment vehicle to repay the loan. This was the case with many peep mis-sold endowment policies in the 1980's and 1990's. Usually borrowers are given the option to have an interest only mortgage plan for a set period at the start of the loan but then after this time, the home owner must start paying back the principle loan as well as the interest and so repayments will rise steeply. Usually this type of mortgage has a higher interest rate than a standard repayment mortgage because of the interest only period at the start.
It is vitally important that anyone considering taking out a mortgage speaks to a qualified mortgage advisor about their options and what mortgages are available to them and most suited to their particular circumstances.
Rachel Gawith runs TheTravelBug website for independent advice on buying in Bulgaria, gained for her 5 years experience in the property market there and on the ground experience of living in central Bulgaria for close to six years.
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