Mortgage calculator: is it better to rent or buy?

Mortgages have become increasingly complex in recent years as the market has become more competitive. Borrowers now need to consider at least two things: the type of loan they want and how they are going to repay it. Here are the main options:

Types of loan

Variable rate: Rates on these loans fluctuate in line with general interest rates but because they are at the lender’s discretion they don’t necessarily move as far, or as fast. Discounts are usually offered to new borrowers in the early years.

Tracker: Rates on tracker loans are normally linked directly to movements in the Bank of England base rate. The link may be for a limited period rather than the life of the mortgage.

Cashback: When these loans are granted, cash payments are given to borrowers to spend how they like. They are typically between 6 per cent and 8 per cent of the loan.

Fixed-rate: Rates of interest on these loans are guaranteed not to change for a specified period, typically the first three to five years of the mortgage. A few lenders offer 25 year fixed-rates.

Capped-rate: With this type of loan, the interest rate is guaranteed not to exceed a fixed level during the capped-rate period. The advantage is that it can go down if rates are cut.

Methods of repayment

Repayment: Also known as capital and interest mortgages because part of the monthly payments gradually pays off the loan while the remainder covers the interest on the amount outstanding.

Offset: These loans are taken out in conjunction with a current account or savings account. Regular mortgage repayments are required but at the same time the cash in the other accounts helps to reduce the loan, thereby saving interest. This can help to speed up repayment of the mortgage.

Interest-only: As its name implies, the borrower pays the interest only on the loan during the mortgage term so the capital remains outstanding. Payments may also be made into a savings scheme, such as an Individual Savings Account, to repay the capital at the end of the term. Sometimes the loan is repaid out of the sale proceeds of the property.

Endowment mortgage: This is where an interest-only loan is combined with a life assurance with-profits policy intended to pay out a sufficient sum to clear the mortgage at the end of the term. But endowment policy payouts are not guaranteed and many are currently expected to produce shortfalls.

What to look out for

Arrangement fees: Most lenders nowadays charge you for the work involved in setting up a mortgage or to reserve a loan at a particular rate. The amounts can vary considerably between lenders, ranging between £200 and £700. Paying more doesn’t always get you a better deal. Check whether the fee is refundable if the deal falls through.

High lending charge: If you are borrowing more than 90 per cent of the property value, check to see whether you will be charged an extra fee. This is to protect the lender in case you fail to keep up the payments, but not all of them make this charge.

Insurance tie-ins: Some lenders will offer you a lower mortgage rate if you buy their home insurance products. They will also encourage you to take out their mortgage payment protection policy. It is usually better to shop around for the cheapest insurance deal.

Redemption penalties: With mortgage special offers, fixed rate deals, etc, you will normally be charged a penalty if you pay off your loan within the offer period. In particular, try to avoid those loans with redemption penalties that extend beyond the end of the offer period as you will be stuck on the lender’s standard variable rate.

Initial disclosure documents and key facts illustrations: Initial disclosure documents (IDDs) spell out mortgage advisers’ services, such as whether they can recommend products from one company only, or are free to sell mortgages from all lenders. Key facts illustrations (KFIs) are given to borrowers when they apply for or are recommended a mortgage. These outline the mortgage’s cost over its term, repayments, fees and an interest rate expressed as an annual percentage rate (APR).

Annual percentage rate: The APR tells prospective customers the interest rate over the life of the mortgage. This factors in any initial offer rate and then the lender’s standard variable rate to which the mortgage reverts, as well as the impact of fees.The APR in the key facts document does not reflect that many mortgage borrowers switch to better deals than the lender’s standard variable rate (SVR) after their initial offer expires. Neither does it include the potential costs on leaving the mortgage, such as administration fees and early repayment charges.

Standard variable rate: “Nothing,” says Rob Clifford, chief executive of Mortgageforce, the financial adviser. “Standard variable rate sounds as if it is based on the Bank of England’s base rate, but it is a commercial rate that is different at every lender.”