how does mortgage interest work in the UK?
Mortgage interest is fairly easy to grasp once you understand the concept of it.
You have an annual APR which has been given to you by your mortgage lender and displayed in your key facts illustration document when you received your mortgage offer.
This APR can either be charged daily, weekly or monthly on the balance outstanding.
Based on how it is charged you will need to make a monthly mortgage repayment including the capital being repaid for that month plus the total interest charges for that month.
The capital being repaid for that month has already been broken down through a process called amortization and will reduce every month as long as you continue to make your monthly mortgage repayments on time.
Different mortgage lenders have different ways of calculating the mortgage interest and you should inquire with the mortgage lender on how they calculate theirs as it won’t be up to you.
Most people prefer to have their interest charged daily as over a 25-year term interest charged daily comes out cheaper than any other option.
Borrowers can also benefit more by overpaying their mortgage when the interest is charged daily.
What affects the mortgage interest you are charged?
Your credit score:
If you have a bad credit score then you will see that most mortgage lenders may offer you a higher APR. Bad credit mortgages are available but you will likely need the help of a bad credit mortgage broker to advise you on what your options are.
Your mortgage deposit:
If you have a bigger mortgage deposit which reduces the mortgage Loan to value you will find that you will get a better mortgage interest than someone with a comparable property and financial profile who has a smaller mortgage deposit.
The interest you pay on your mortgage can either be one of the below:
With these mortgages, the rates are fixed for a period of 2, 3 or 5 years and provides you certainty over your mortgage term.
Variable rate mortgages:
You can access a host of variable mortgages through a mortgage lender and this mortgages will have a variable rate which can be increased or decreased at any time by the mortgage lender.
Tracker rate mortgages:
You can access a host of tracker mortgages from most mortgage lenders. These mortgages will usually track the bank of England’s rate and will move in line with it although it may not be the exact rate but rather a rate which will increase by the same point or increase by the same point as the bank of England rate.
With an interest-only mortgage, you will only have to pay the interest portion of the mortgage every month and then the capital will have to be repaid in one large sum at the end of the mortgage term.
These kinds of mortgages are not so common anymore due to the risks involved for the mortgage lender.
If you are worried about how much interest you are being charged on your mortgage and want to switch mortgage products then you should speak to a mortgage broker to see what your options could be.
Mortgage interest isn’t an isolated factor as it is charged based on your total mortgage affordability. The mortgage interest you may be paying could be due to your credit score or the amount of mortgage deposit you put down which puts you in a more expensive or cheaper LTV band.
You could reduce the amount of interest you pay over the lifetime of your mortgage by reducing the mortgage term or making overpayments on your mortgage but beware that making mortgage overpayments could have fees associated to them and most mortgage lenders may have limits on how much you can overpay by.
If you are struggling to save a mortgage deposit or you want to reduce the amount of mortgage interest you currently pay then you should consider looking into one of the government schemes available to both first-time buyers and home movers but beware that although your mortgage interest may lessen in the short term due to an increased mortgage deposit from a scheme such as the help to buy equity loan the overall interest on your property purchase may still be high when taking into consideration the interest charged on any government scheme.
The government schemes you may be eligible for include:
- Lifetime ISA– gives you a government bonus of £1,000 if you save the maximum £4,000 a year.
- Help to buy ISA– gives a maximum bonus us £3,000 if you save the maximum allowed of £12,000. Before you get either you should consider which is better. Lifetime ISA vs Help to buy ISA.
- Help to buy equity loan- gives you up to 40% as a 5-year interest-free equity loan. You begin to pay interest at 1.75 % after the fifth year and 1% plus RPI for every year thereafter.
- Shared ownership- You can buy between 25% to 75% of the property initially with a shared ownership mortgage and then buy more using a staircasing mortgage.
- Armed forces help to buy- similar to the help to buy equity loan but specific for the armed forces personnel giving them an increased chance of acceptance.
- Rent to buy- This is the right to buy scheme on which this guide is currently discussing. A different marketing name is just used. Watch out for this when shopping to avoid missing out on eligible properties due to confusion.
- Right to buy- allows you to buy your home at a discount price.
- Preserved right to buy- same as above.
- Right to acquire- same as above.
Help for mortgage interest
If you are struggling to repay your mortgage then you may be eligible to claim support for mortgage interest.
If you need financial advice and you live in the UK then you could contact the Money Advice service over the phone or via chat for impartial advice.
You can also contact the debt charity “Step Change” if you are in debt and need help.