An introductory guide to mortgages

Mortgages can basically be divided into two different types according to how you pay them off:

• Repayment
  You pay off the interest and the capital (the amount you borrowed) over the full term of the mortgage.
• Interest only
  This is also known as endowment, pension or ISA mortgage. You pay the interest due on your mortgage every month. The full amount of the loan will have to be repaid at the end of the mortgage term. This is done by investing in either an insurance policy, ISA or personal pension. The money you pay into this is invested for the length of the mortgage term. As with any investment, there is the risk that the final sum that you receive may not be as much as the capital you borrowed.

Budget

Before you decide on a mortgage, work out how big your budget is and how much you'll be able to repay each month.

Don't overstretch yourself because you could find making repayments difficult if interest rates increase or your situation changes. When calculating your budget you'll also need to include added costs such as the loan for a deposit - if you haven't money saved for this - buildings and contents insurance and life insurance.

Borrowing limits

Different mortgage providers have different criteria for lending money, but in general the amount you can borrow depends on:

• your income
• your employment status
• your other financial commitments
• the size of the deposit you put down

Before you start looking for a new home or decide to increase your mortgage, it makes sense to know how much you can borrow. Lender's attitudes vary, but they will usually lend you between 3 and 4.5 times your annual income before tax if you're applying for a mortgage on your own. If you're applying with somebody else, they will usually lend either between 3 and 4.5 times the main income plus the second income or 2.5 and 4 times the two incomes added together.

Lenders will normally ask for anything up to six pay slips. If you're self-employed you will need three years of accounts to verify your income. They may also ask for bank statements and references.

If you can afford to put down a large deposit, measured as a percentage of the value of the home, banks and building societies maybe more willing to agree to a mortgage.

Mortgage terms

The longer you borrow the money for, the more interest you will pay. However, the longer the mortgage term, the lower your repayments will be each month. Typically, a mortgage term lasts 25 years.

Cost of financing

There may be extra charges connected to your mortgage application:

• Arrangement fees - Some lenders may charge arrangement fees in the range of £300.
• Valuer's report - Because your home acts as security for the loan, the lender will want to be sure that the house is worth the sale price and will usually insist on a valuation. This valuation is carried out by a surveyor whose services you pay for.
• Indemnity guarantee fee - Some lenders insist you take out an indemnity guarantee policy, i.e. an insurance policy, in case you can't pay the mortgage or the sale price of the property is not enough to repay the loan.
• Penalties - Look out for penalties for repaying a mortgage early or missing a payment.

There are some competitive deals to be had but if something sounds too good to be true, it probably is, so don't rush into anything you're not sure about.