How mortgages work

How mortgages work – A mortgage, whether it is repayment or interest only is a loan taken out to buy property or land.

When it comes to getting a mortgage your personal needs and preferences are unique. For this reason, it’s good to know how mortgages work generally. It’s also good to have an idea of what options might be available.

A mortgage is a loan that’s taken out to buy property or land. Mortgages can run for as long as 40 years. But, most run for 25 years. A mortgage’s repayment length of time is known as its “Mortgage Term”.

Mortgages are secured against the value of the property you’re buying. Mortgage lenders charge interest on the money you borrow. The higher the mortgage interest rate, the more you pay in interest. The quicker you can pay off your mortgage, the less interest you are likely to pay.

There are different ways to repay your mortgage. The most common methods are:

Repayment Mortgages

Each month, your repayment consists of both interest charged on your mortgage and an additional amount that’s used to reduce your mortgage balance. During the early years your monthly payment consists mostly of interest. However, as the loan starts to get repaid, the interest being charged becomes less, meaning that more of your monthly payment is used to pay off the actual mortgage debt.

With a repayment mortgage, the longer your mortgage term, the lower your monthly repayment. However, because it takes longer to pay off the loan with a longer term, you pay more interest. As a result, a longer term mortgage costs more over the full term of the mortgage.

Interest Only Mortgages

With an interest only mortgage, the length of any mortgage term you choose makes no difference to the amount you pay each month. That’s because you’ll only be paying off the interest being charged, not the mortgage amount borrowed. 

If you have an interest only mortgage it’s usual to have a separate savings plan, and that is used to repay the amount you borrowed on your mortgage, at the end of your mortgage term. If you don’t have any money to repay your mortgage at the end of its term, you may need to sell your home as the mortgage provider will want the loan back.

We have more guides available for first time buyers, home buyers, remortgages and buy to let. Also we recommend the Money Advice Service if you want further information