What is a repayment mortgage and are they a good thing?
Let’s assume you have just found your perfect home, or a great deal on a new remortgage. Before committing to the next steps it’s crucial to understand the different types of mortgages available. One of the most common options is a repayment mortgage, and for good reason. Let’s break down exactly what a repayment mortgage is and how it works.
What is a Repayment Mortgage?
Firstly, a repayment mortgage is a loan where your monthly payments go towards paying off both the capital (the amount you borrowed) and the interest the lender will be charging on the loan. This means that with each regular payment, you chip away at the total amount you owe. Eventually owning your home outright by the end of your chosen mortgage term.
A repayment mortgage is currently the most common mortgage in the UK. Around 88% of mortgages are set up in this way.
Unlike an interest-only mortgage, where you only pay the interest on the loan each month whilst the capital balance remains unchanged, a repayment mortgage offers peace of mind. You will see your balance reducing little by little, and by the end of the term, your mortgage is paid off completely.
Is a Repayment Mortgage Right for You?
Repayment mortgages are a good choice for those who want the security of knowing their home will be paid for by the end of the mortgage term. They also offer a sense of accomplishment as you see your equity in the property increase with each payment. As the balance will be gradually reducing over the mortgage term, there is no need to have any backup investment plan to cover a final balance as there would be on an interest only mortgage.
During the initial years of the mortgage the balance will reduce at a slower pace. This is because the interest element makes up the majority of your total monthly repayment. However, don’t let this hold you back. As the term reduces so the amount of capital you repay each month increases and you will repay the balance at a faster pace.
A repayment mortgage is also the preferred method for the mortgage lenders. Therefore, the criteria to obtain one will be simpler than those for an interest only mortgage.
Also check out our comparison between repayment mortgages and interest only here.
Pro’s and Con’s of a repayment mortgage.
Positives
Guarantees to repay the mortgage in full over the term as long as repayments have been maintained. Useful when planning for retirement.
Easy to see how your balance is reducing and what level it will be at in the future.
No need for any secondary repayment plan.
Mortgage terms can be matched to fit a preferred monthly budget.
In most cases overpayments can be made to speed up balance repayment when interest rates are lower.
Negatives
Shorter terms can be prohibitively expensive on a monthly basis.
Banks may not lend as much over a shorter term and maximum terms are dependant on age.
The borrowers aim may not be to repay a mortgage in the short term. The property could be sold, or an upcoming lump sum may be used to clear a significant portion of the balance. In these cases chipping away at a balance slowly is not the main priority.
Extending a term to reduce the monthly repayment will see a gradual tapering off of its effectiveness as the term lengthens. So taking a 25 year term instead of a 20 year term will result in a greater overall difference in repayments than extending from 30 years to 35 would do.
In summary.
To summarise, a repayment mortgage is a straightforward and secure way to finance your home. It provides peace of mind and allows you to gradually build equity in your property. However, it’s important to consider your financial situation and long-term goals when choosing a mortgage. Talking to a mortgage broker can help you determine if a repayment mortgage is the right fit for you.
Share your experiences with a repayment vs interest only mortgage using the comment box below.
Post compiled by Grant Carpenter CeMAP, CeFA – 15 years of regulated mortgage advice.
Please note that the content listed within this post is purely for information purposes only and does not constitute advice.
