Bad Credit Mortgage Types

Types of Payment

What types of mortgages are there? There are two key categories when it comes to mortgage repayment - either repayment or interest-only. Have a look below to discover mortgage repayment types. It’s worth noting that hardly any interest-only mortgages exist these days. You’ll most likely take out a repayment mortgage - unless it’s a buy to let.   We’ve listed the types of mortgage interest rates below.

Repayment

When it comes to types of conventional mortgage loans, most homeowners have a repayment mortgage. Basically, each month you pay back both the interest and your original mortgage loan itself. After around 25 years at the end of the mortgage term, you’ll most likely have paid off the total cost of the mortgage loan (the capital).  

At the start of paying off a repayment mortgage, almost all your monthly costs will go towards settling the interest. But don’t be alarmed, this is because the interest is worked on a front loaded basis and on the outstanding balance of the loan. As time goes on, your payments will go towards even more of the loan every month.  

Interest Only

The clue is in the name. You merely pay off the interest on your loan. While your monthly payments are a lot lower, you’re still required to pay back the entire loan once your mortgage term comes to an end.  

The main idea behind this type of mortgage is that monthly payments are less than repayment mortgages.  

Hardly any homeowner mortgages are interest only, they are mainly for buy to let mortgages.

Mortgage Types Explained

Before we get into the nitty gritty of all the types of mortgages, it’s important to know about bank base rates, as they can affect your mortgage. The bank base rate is the interest rate that a central bank – normally the Bank of England – will charge commercial banks for loans.
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Fixed Rate

This type of mortgage is fixed for an agreed amount of time. Generally, fixed rate mortgages are set for roughly two to five years. If you decide to take out this type of mortgage for a longer period of time, interest rates are usually much higher.  

Once the length of your fixed deal has finished, the interest rates return to the lender’s standard variable rate (SVR). This rate is normally several percent higher than the Bank of England base rate. The best option here is to re-mortgage to a new lender or assess options with your current lender and transfer to another product at this stage to get a better deal.  

Pros:

• You know exactly what you’re going to pay every month until the end of the deal. This inevitably makes budgeting a lot simpler.
• Even if interest rates increase during your fixed term deal, your interest rate will remain the same.

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Cons:

• You won’t be able to take advantage of lower interest rates if they drop.
• You’ll probably be liable for an early repayment penalty if you decide to leave your mortgage deal before it comes to an end.
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Banks Standard Variable Rate (SVR)

As the name suggests, this type of mortgage involves the interest rate to go up or down. The main trigger for this is changes to the UK economy. The interest rates are affected by the Bank of England’s base rate. But this is very much dependent on the kind of variable rate mortgage you’ve taken out. 

Pros:

• You don’t have to remain on this rate, it’s usually for when a deal comes to an end. Nor will you normally have to fork out for the penalty charge if you decide to repay or change your mortgage prior to the end of the loan term.

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Cons:

• Interest rates could rocket radically. Thus, your monthly repayments could escalate severely or even become too expensive to pay.
• Even though lenders aren’t obliged to up the rate when the Bank of England’s rate increases, they very often increase too.
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Tracker Rate

This is another type of variable rate mortgage where the rate is influenced by the Bank of England. It’ll be set at a certain point over or under this designated rate. This is where the term ‘tracker’ comes from. Tracker mortgages follow – or track – an external interest rate, usually set by the Bank of England.  

For instance, if your tracker mortgage is the base rate +2%, and the base rate is 1%, you’ll pay 3%. If the base rate increases to 2%, you’ll pay 4%.

Pros:

• If interest rates drop, so will your payments.
• As it’s a riskier mortgage to take out, introductory tracker rates can be among the lowest variable interest rates available.
• Arrangement fees can be less than for a fixed rate.
• Early repayment charges are less pricy.

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Cons:

• If interest rates rise, so do your payments.
• Some tracker mortgages set ‘collar rates’ meaning you won’t benefit if rates drop significantly under a certain level.
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Discount

Another of the different types for variable mortgages in the UK are those of discount mortgages. This is where the interest rate is fixed at a set rate below the lender’s standard variable rate (SVR) for either a set period (e.g. two to five years) or for the length of your mortgage.  

For example, if the lender’s current SVR is 4.50% and you’re offered a discount of 2% over two years, you’ll begin with an interest rate of 2.50%. But, if the lender alters their SVR, your rate will alter as well.

Pros:

• You’ll benefit from low interest rates when SVR are low.
• Your rate will stay under your lender’s SVR for as long as your deal lasts.
• Arrangement charges for this type of mortgage are fairly low which makes them less expensive initially.

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Cons:

• Because your discounted interest rate is influenced by your lender’s SVR, they change by any sum, at any time. So, your monthly fees probably won’t be the same each month.
• Just because the Bank of England decides to reduce their rate, it doesn’t necessarily mean the lender will, in fact they normally don’t change their SVR.
• As with tracker mortgages, a discount mortgage may have a collar. This means your discounted rate can’t fall under a certain percentage, so you won’t take advantage of reductions in the SVR.
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Capped

Capped rate mortgages are a type of variable rate mortgage. But there’s a difference: they have an interest rate ceiling – or cap – beyond which your interest can’t increase. You won’t find many capped rate mortgages about these days.

Pros:

• You have the security of knowing your payments won’t go beyond a certain level. So, if when rates rise above a particular percentage, e.g. the level of your ‘cap’, your mortgage won’t.

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Cons:

• Even though your payments are capped to a certain point, interest rates can still rise significantly.
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Offset

Offset mortgage types work to either aid you in cutting down monthly payments or shorten the term, so you become mortgage-free, faster.  

They can be either fixed rate or variable but the key thing that sets them apart is that your savings are used to ‘offset’ a little of the interest you pay on your mortgage loan.  

For instance, if your mortgage balance is £170,000 but you have £30,000 of savings, you’ll just be charged interest on a loan amount of £140,000.

Pros:

• If interest rates on savings are minimal, there’s a chance you’ll save more via an offset mortgage than you would have been paid in interest on your savings.
• It’s a great option for parents wanting to get their children onto the property ladder, as they can use their savings to offset a mortgage.

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Cons:

• Interest levels tend to be higher than other kinds of mortgages. If you don’t have much in your savings, any fluctuation in rate after offsetting could be trivial, these are generally only good for those with large savings.