Checksies ✅

Money things to read, money things to do.


Hi, this is Checksies. It’s about how to do money. It’s not about vouchers. It’s written by @annagoss and @rod, who are not financial advisors. This is issue 4. A whole four people wanted to know how mortgages work, so now we’ll tell all of you. Feedback welcome. And if you’re enjoying Checksies, please do tell your friends to sign up HERE.

A brief introduction to mortgages

A mortgage is money you borrow (the “loan” or the “capital”) from a bank or building society (the “lender”) so that you can buy that house now. You pay the lender back over a long period of time. You also have to pay them interest over that period, which is why they’re prepared to lend you money in the first place.

It’s a pretty low risk way of renting money from a bank or building society, because it’s borrowed against an asset - your house. The mortgage company views your house as “security” for the mortgage. If you don’t pay it off, they know they can get their money back by taking your house from you: so they’ll get their money back one way or another. The good thing is that because the loan is fairly low risk for the mortgage lender, they’ll offer you a pretty good interest rate (compared to borrowing money for things that aren’t houses).

There are also some other ways to think of a mortgage.

  • You might as well pay your mortgage rather than someone else’s, which you’d be doing if renting your home.
  • It gives you access to something that might appreciate in value - ie, the property goes up in value. (This is a risky way to think of mortgages because the flip side is that if prices go down, the amount of mortgage you have to pay back stays the same. If your house value goes down enough, you enter “negative equity” - when the value of your home is less than the amount you owe on it.)
  • It’s money you’re renting from a bank. Here’s an example: Rod just got a mortgage at an interest rate of 1.99% for 5 years and then the lender’s standard variable rate for the remaining 18 years. The mortgage offer tells him that for every £1 he borrows, he will eventually pay back £1.44. So that’s the cost of borrowing the bank’s money.
  • It’s money you’re borrowing from future you. The example above may make you think that future you would rather have the £1.44 instead, particularly if you don’t think that the property market will go up forever. (When thinking about future you, it’s worth considering, though, that it can be useful to have a roof over you’re head when you’re retired - whatever the costs now - without having to pay anyone else for the privilege.)

One thing to do: If you have or want a mortgage…

Mortgage lenders tightened up rules about lending in recent years. These days they do a proper look through your finances. So whether you’re buying a property for the first time or you’re thinking about remortgaging, take some time to clean up your finances beforehand.

Here’s a 17 point checklist of things to do. And these are our highlights:

  • Do a credit check on yourself in case your credit history contains any errors and try get them fixed. Moneysavingexpert’s Credit Club is a free way to do that.
  • Cancel gym memberships and any other monthly outlays that you don’t actually use. Reducing your monthly costs makes it easier for you to show that the loan would be affordable.
  • If you’re self-employed, you’ll probably use your company’s accounts to prove your earnings, so get your annual accounts done if you haven’t already.
  • Unusual or inconsistent earnings may exclude you from some lenders. So using a mortgage broker can help “sell” your story to lenders, and they’ll do a bit of the paperwork for you. There are specialist brokers for people in different industries - it’s worth asking your colleagues if they know anyone. (Other approaches: use an online mortgage broker or DIY it at an online comparison supermarket.)

One thing to do: If you own a house with a mortgage…

Mortgages are in the news because last week the Bank of England raised its interest rate from 0.25% to 0.5%, the first increase in a decade. That has a knock-on effect for mortgages - for some, an instant rate rise, and for others, a hint of a rate rise to come.

If you’re already got a mortgage, then check your mortgage rate and terms.

You might be half way through a “fixed” deal (more on what “fixed” and other mortgage jargon means below). If so, great - the base rate increase won’t affect you immediately. Make a note in your calendar to review it 3 months before the fix ends.

You might be on “variable” or “tracker” rate (eg if your fix has ended). If so, the amount you pay monthly might have just gone up a bit after that Bank of England rate rise. It’s worth considering whether to switch to a fixed deal because a standard variable rate is usually about 2% more than a fixed or tracker rate. If you want the certainty of knowing exactly what you’re spending monthly, getting a new fixed deal helps. Rod’s 5 year fix deal gives him the certainty he wants.

If you don’t mind your payments potentially fluctuating, you could look at a tracker or discounted variable rate mortgage. For example, Anna doesn’t want to stay locked into a rate for 5 years, and is on a cheap tracker deal. She’s sticking because she thinks interest rates will only go up slowly.

There’s no right answer for everyone - it’s about what deal you’re on today plus your personal circumstances. So, if you’re not sure what to do, talk to a chartered independent financial advisor.

Three things to do: If you rent and are thinking about buying a house…

  1. Consider NOT getting a mortgage - continuing to rent might make more sense for you. Properties needs maintenance (= cost), cost a lot to buy (= more cost), and aren’t easy to sell (= inconvenience).
  2. Save hard into a cash ISA. You could open a Help to Buy ISA, where the government will top up your ISA by 25% when you buy a house. Watch out though: you can’t save more than £200 a month into a Help to Buy ISA. And you can’t have one alongside a Cash ISA. (There will be a Checksies about ISAs in future!)
  3. Cash is the safest place to keep a deposit. If you’re growing your deposit over the next few years though, watch out for it devaluing with inflation. To avoid that, you can mix up cash with an investment in something like (this is a referral link: it gives you and us 6 months without management charges. It also helps keep the lights on at Checksies HQ), who call themselves a “property ISA”. You’re buying into the property market’s performance before you can buy yourself somewhere to live. Remember though: as with all investments, it can go down as well as up. If the property market crashes, your investment will too.

A mortgage example and mortgage jargon primer

The average house in the UK is worth £226,000 (Aug 17), but let’s look at an example with numbers that make the maths a bit clearer. So imagine you want to buy a home worth £100,000 and you’ve got a deposit of £10,000. Here’s an example mortgage deal:

£90,000 loan at 2.5% fixed for 2 years, then SVR for 23 years. Interest and capital repayment. The APRC applicable to your loan is 3.9%. Early repayment charges apply.

What does all of that mean?

  • £90,000 loan: the amount you’re borrowing, sometimes called the “capital”. Your “loan to value” (LTV) is the mortgage as a percentage of your house’s total value. In this example then, it’s 90,000 divided by 100,000, or 90%. If your LTV is lower, you’ll get offered better interest rates because you’re lower risk to the mortgage lender. There are tipping points for those better interest rates, so if you find yourself with a 60% LTV, try to find a bit more deposit and drop it to 59%. On a £100,000 house, that’s £1,000 more for the deposit - a bit more up front, but it’ll probably save you money in the long run, because you’re paying less in interest.
  • 2.5% fixed for 2 years: this is a taster deal to win your business. “Fixed” means you’re paying the same every month, whether the Bank of England raises or lowers the interest rate. You can fix your rate up to a decade - the longer you fix for, the higher rate you’ll pay. That’s because you’re trading off cheaper rates for longer term certainty. If you want to sell your property without buying a new one during the period of the “fix”, you might have to pay an early repayment charge (see below).
  • then SVR for 23 years: after the fixed period, you go onto the bank’s Standard Variable Rate (SVR), which will be more than the 2 year fix rate. There’s no reason why you can’t remortgage again after the two years; you don’t need to stay on the SVR. The deals available when you come to remortgage will be different depending on interest rates and the state of the economy, so you might pay more or less in interest.
  • APRC: “The annual percentage rate of charge (APRC) is the total cost of the loan expressed as an annual percentage, and is provided to help you to compare different offers. Note: it assumes that you stay with the same mortgage lender for the 25 year period (which you probably won’t do), and their Standard Variable Rate will stay the same for the 25 year period (which it definitely won’t do).
  • interest and capital repayment: the capital is the £90,000 you’re borrowing, and the interest is charged on top of that. Each of your monthly mortgage payments pays off a piece of the capital and a piece of the interest - this is called a “repayment” mortgage. There are also “interest only” mortgages, which are cheaper because you’re only paying the interest every month. That sounds great but remember that at the end of the mortgage’s term, you will also have to come up with £90,000 to repay the capital to the lender. Scary. So we do not recommend them.
  • Early repayment charges apply: If you have a windfall and decide to pay off all of your mortgage, check the details of this first. Early repayment charges exist so that lenders don’t lose out on your interest payments if you decide to pay off your whole mortgage. They’re usually somewhere between 1-5% of your mortgage value, and start to apply if you pay off more than an extra 10% a year. In our example, that means you can pay up to £10,000 a year on top of your normal mortgage payments. More than that, and they’ll charge you some money.

Thanks for reading.

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Small print

We’re not independent financial advisors, so this isn’t financial or investment advice. Before spending money on financial products, you should talk to an Independent Financial Advisor. The ones you want are qualified as “Chartered Financial Planners”, and you can find one here. We’re in the UK, which means we don’t understand anything about advice, money or tax in other countries. We have biases. We hold shares in whatever Vanguard thinks is appropriate. We may also hold shares in individual companies, for instance our employers. We’re trying to work out what’s best to do, just like you are.

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