All About Interest
Your Mortgage Interest Rates
When it comes to borrowing money in any form, the most important factor is the interest rate. The interest rate is technically the rate at which you are charged for using someone else’s money. So, the higher the interest rate, the more expensive it is to borrow.
When it comes to mortgages, interest rates remain key, and they can change throughout the lifetime of the mortgage. Accordingly, if you’re shopping around for mortgages, you should make sure that you use a tool like the Santander calculator for mortgage repayments to work out how various mortgages with different rates compare in the long term.
Interest in itself is not a problem, with mortgages it becomes problematic because you pay interest on the interest you have already accrued. So, if you borrowed £1, and paid interest of 20% on it, at the end of a year (for example) you’d owe £1, the original sum borrow, plus 20% of it, to make £1.20. The problem is, at the end of the next year, you’d owe the £1.20, and 20% of that £1.20, making your overall debt £1.44 and so on.
Mortgages Compound Interest
This is called compound interest, and continues to the extent that if you borrowed £100,000 at 5% (and never paid anything back) after 25 years you would owe an astonishing £239,000. Which is why mortgages can be so expensive.
However, in practice, because you are paying back as you go, the amount you pay for a mortgage is reduced. To begin with, most of your repayments are interest, but as you chip away at the total sum you’ve borrowed, the interest you have to pay decreases and you pay more and more of the underlying debt until you finish the mortgage and own your home.
The knock-on effect of this is that many people are unwilling to remortgage, after all, if you’ve been chipping away steadily and got to a level where you’re repaying back good size portions of the actual money borrowed, why start again? Well, you can change provider relatively easily, just make sure that you switch to a mortgage (with a better rate) but that has the same details as the one you’ve just left (so if you’ve only got five years left, change to a five year mortgage, don’t start from scratch again).
Interest Only Mortgages
An alternative option is to get the type of mortgage where you just pay the interest, so, again, if you borrow £100,000 at 5%, every year you’ll pay £5,000 back whatever happens. Unfortunately, after 25 years, you’ll have paid £125,000 and still owe the full £100,000. Interest only mortgages should really only be for those who would otherwise struggle to afford to buy a house.
Interest is a complicated business, particularly compound interest, and it has huge implications for mortgages and how much you have to pay for them. If you’re thinking about getting a mortgage, it’s always worth paying for independent financial advice, although it may cost a little bit, the advice is well worth it.
