Understanding Mortgages

quantic

Ok, I need one of you kind people to explain something to me. I understand the basic's of a mortgage, the different types and what they all mean. What I don't understand is how the interest works...

Are mortgages the same as other loans whereby as you progress through your debt the interest is larger on the first payment then slowly moves down until you begin to pay less interest and more capital?

If this is the case, if you get a new mortgage - with another provider, do does this start again? I have heard people saying stuff like "For the first 5 years of having our mortgage we barely paid off any capital..."

Could someone also explain how overpayments work, am I right to assume that any payment made on top of the monthly payment will come off the capital 100% and will not go to covering interest? Is there a best time to make overpayments? Is it better to save up and pay a chunk overpayment or pay monthly?

When we first took out our mortgage we took it over 30 years so that we knew we would be able to pay it no problem (especially in the early days when we where paying for furniture and renovation) but now that we have finished all of that we are looking at our options to shorten the period while getting the best bang for our buck.

Sorry if this was a little long winded, I appreciate any help in understanding this.

kingstreet

Your understanding is clear and concise.

In the early years you pay mostly interest with the bulk of the capital being repaid in the later years.

You do start again when you move house or remortgage to a new lender. This is why it's important to try to overpay, or at least reflect the years that have passed in the term of your new mortgage. ie thirty years at outset, remortgage after five years and take new deal over twenty-five.

Overpayments will reduce the capital balance and hence the future interest. Timing of overpayments should be based on the terms of the mortgage. If you get daily interest calculation, you can make payments any time and get equal benefit.

If you have a mortgage with interest calculated annually, you're probably better off saving the money up and paying off a lump sum just before the anniversary calculation for the coming year.

Offset deals allow you to overpay and reduce the interest payable on the debit balance by offsetting the interest you forego on the credit balance you have on any savings. This effectively gives you a tax-free return on your savings too.

quantic

Hmm, this is difficult to get your head around. Surely, if you remortgage at a lower rate, you still might be worse off, if the interest is biast towards the beginning of a mortgage. E.g. If you remortgage every 5 years and always end up paying compound interest you will never do any damage to the capital you owe?

Even if you get a lower rate each time, you will just be paying interest on an amount that is never reducing by much, so surely might it not be better to stay with your mortgage provider and pay a higher interest while not resetting compounded interest. Or am I missing something?

Am I right to assume that I can stay on my 3 year tracker after the 3 years is up instead of remortgaging? Even if cheaper deals are available, rather then going back to the start.

I am not interested in monthly payments being lower, I am interested in paying the least over the entire term as possible.

Thrugelmir

When remortgaging keep the remaining term of the mortgage the same. So if your existing mortgage has 18 years, do not take out the new mortgage for a 25 year term.

quantic

So remortgaging from a 30 year mortgage (with 18 years left) to a 18 month mortgage on a better % would be the same cost (over the term) as a the origional, minus whatever the new mortgage percentage saves you?

Thrugelmir

Don't confuse the mortgage with a product.

I assume that you originally took out a 30 year mortgage with currently 18 years left to pay. By fixing your mortgage for 18 months to a fixed rate of interest. You have not taken out a new mortgage. Merely changed the terms of the mortgage contract for the duration of that 18 month term.

In legal terms a mortgage is the actual charge placed against the property to secure the money advanced. The money advanced is in reality a loan like any other.

kingstreet

quantic wrote: »

So remortgaging from a 30 year mortgage (with 18 years left) to a 18 month mortgage on a better % would be the same cost (over the term) as a the origional, minus whatever the new mortgage percentage saves you?

Did you mean months, or years?

If it was a typo and you meant years, then your premise is correct. The worst thing you could do is take a 25 year term, then move after 5 years and take another 25 year mortgage. Then your assertion about never repaying the capital would be absolutely true.

Set your goalposts at the age you'd like your mortgage to be repaid by, then pick the mortgage term that corresponds with that each time you move house, or change mortgage lenders.

kingstreet

Choosing an interest-only mortgage, to be repaid at the end of the term by an ISA for example, could be a way of avoiding the possibility of the "revert to 25 year" mentality for those who expect to move regularly.

When you move, you continue your existing ISA, increasing your payments into it if necessary. The theory is you'll then have sufficient funds at the end of your planned term as you don't keep going back to day one each time you move.

You can still overpay to reduce the capital and then the monthly interest payments, then use those savings as further ISA contributions.

You have to be prepared to accept the risks involved if you do this and seek professional advice from an IFA.

quantic

Thanks guys, I very clearly understand this now. I have never been able to get my head around it. Partly because everyone I know talks about mortgages when they quite clearly do not have a clue how they work but in the most part because people are not taught any of this before they actually need to do it and unfortunately mortgage advisors I have encountered do not wish you to understand them either, they just want to get you to buy the product that makes them the most .

I am 25 now, I have worked out that with my current product, I would need to make overpayments of £226 to be mortgage free 11 days before my 40th birthday. Obviously this assumes I am living in this house for the rest of my life, but its a very realistic goal.

kingstreet

You may be doing brokers a bit of a disservice. Most people I've come across in the last twenty-seven years aren't interested in how things work. They want to know how much, how long and thanks I'll move in now.

As a bit of a nerd, I've always been happy to chew the fat over issues like this in some detail, because it's stuff I'd want to know. In every case, I do explain how interest is paid in the early years and what accrued interest is and when it applies and how moving mortgages is only worthwhile if you keep to your original planned term. The eyes are normally glazed over about half way through though...

In the bulk of prime "High Street" mortgage cases, the whole of market broker gets a fee from the lender which is around 0.3% of the mortgage advance. Most of my cases are around the £100k mark in Staffordshire, so that's about £300 a case. For that you get advice and recommendation and a full arrangement service, home/evening visits, regulatory protection, complaints and compensation entitlement and as much stress reduction as I can possibly manage.

I'd say I'm pretty much like most of the brokers I know and see regularly and I don't think any of us would really risk not getting you the best deal we could for what little difference there might be in our earnings. We'd rather have you as a client and referring your friends and family to us for the next ten or twenty years and we'll only achieve that by making sure you're happy with our advice and overall service.

quantic

Sorry kingstreet, perhaps I didn't come across how I intended to, I wasn't having a go at mortgage advisors on a whole, as I'm sure there are some very good ones out there like yourself, I was just saying my experience with the ones I have seen so far as been less then great.

For example; The mortgage advisor that I was forced to see, (in order to view one property) said that he would recommend going for a fixed 3 year deal at 7%. In the end I got a 4.29% deal with 10% deposit. He said that at least I would know what I was paying for 3 years...

If I had taken his advice I would be £6,181.92 out of pocket over the 3 year period (providing base rates stay low, which I believe they will). With money I have already saved being on this tracker, the base rates would have to go up about 5% for the rest of the 3 years in order for it to make me worse off.