What Is a Mortgage? A Simple Guide for Home Buyers

Buying a home is one of the biggest financial decisions most people will make, and for many buyers, a mortgage is an essential part of the process. But what exactly is a mortgage, how does it work, and what should you consider before applying?

Whether you are a first-time buyer or thinking about moving home, understanding what a mortgage is can help you make more informed decisions.

In this guide, we explain how mortgages work, the different types of mortgages available, how much you can borrow and some of the key costs you need to consider.

What is a mortgage?

A mortgage is a loan used to buy a property or piece of land.

Unlike many other types of borrowing, a mortgage is secured against the property. This means the property acts as security for the loan.

You usually borrow money from a mortgage lender to help pay for your home and then repay the mortgage over an agreed period, often several decades.

For example, if you are buying a £300,000 property and have a £60,000 deposit, you may need to borrow £240,000 through a mortgage.

Your mortgage repayments will generally consist of the amount you borrowed, known as the capital, plus interest charged by the lender.

How does a mortgage work?

When you take out a mortgage, the lender provides the money needed to help purchase the property.

You then make regular repayments over the mortgage term.

A typical mortgage involves:

1. Saving a deposit.

2. Applying for a mortgage.

3. The lender assessing your financial circumstances.

4. The lender agreeing how much it is prepared to lend.

5. Purchasing the property.

6. Making regular mortgage repayments.

7. Eventually repaying the mortgage in full.

The property provides security for the lender. If the borrower does not keep up with mortgage repayments, the lender may ultimately have the right to take possession of the property, subject to the applicable legal process.

What is a mortgage deposit?

A mortgage deposit is the amount of money you contribute towards the purchase price of the property yourself.

The remainder can potentially be borrowed through a mortgage.

For example:

Property price: £250,000
Deposit: £25,000
Mortgage: £225,000

In this example, the buyer has a 10% deposit and requires a mortgage covering the remaining 90%.

The relationship between the mortgage and the property’s value is known as the loan-to-value (LTV) ratio.

What is loan-to-value (LTV)?

Loan-to-value, commonly shortened to LTV, describes how much you are borrowing compared with the value or purchase price of the property.

For example, if you buy a £300,000 property with a £60,000 deposit, you need a £240,000 mortgage.

That would give you an LTV of 80%.

Generally, a larger deposit means a lower LTV. Depending on the lender and mortgage product, a lower LTV can potentially give you access to a wider range of mortgage rates.

What are the different types of mortgages?

There are several different types of mortgages available in the UK.

Fixed-rate mortgage

With a fixed-rate mortgage, your interest rate is fixed for an agreed period.

This means your mortgage interest rate will not change during the fixed-rate period, providing greater certainty over your mortgage payments.

Once the fixed-rate period ends, you will normally move onto another mortgage rate unless you arrange a new deal.

Variable-rate mortgage

A variable-rate mortgage has an interest rate that can change.

The amount you pay may therefore increase or decrease depending on changes to the applicable interest rate.

There are different forms of variable-rate mortgages, including tracker and standard variable rate mortgages.

Tracker mortgage

A tracker mortgage typically follows a reference rate, such as the Bank of England Bank Rate, plus or minus a specified percentage.

If the relevant rate changes, your mortgage rate may change too.

Interest-only mortgage

With an interest-only mortgage, your regular payments cover the interest on the borrowing rather than reducing the capital owed.

At the end of the mortgage term, you still need to repay the amount originally borrowed.

Interest-only mortgages therefore require careful planning to ensure you have an appropriate repayment strategy.

What is a repayment mortgage?

A repayment mortgage is one of the most common types of residential mortgage.

With a repayment mortgage, each monthly payment generally covers some of the interest and some of the capital you borrowed.

Provided you maintain the agreed payments for the full mortgage term, the mortgage should be repaid by the end of the term.

For many homeowners, this makes a repayment mortgage a straightforward way of gradually paying off their borrowing.

How long is a mortgage term?

A mortgage term is the length of time you have agreed to repay the mortgage.

Mortgage terms can vary significantly, but terms of 20, 25, 30 or even 35 years are common depending on the borrower’s circumstances and the lender’s criteria.

A longer mortgage term can reduce the size of your monthly payments, but you may pay more interest over the lifetime of the mortgage.

A shorter term can mean higher monthly payments but may reduce the total interest paid.

How much can I borrow on a mortgage?

The amount you can borrow depends on a range of factors.

Mortgage lenders may consider:

• Your income

• Your employment

• Your regular expenditure

• Existing debts and financial commitments

• Your credit history

• The size of your deposit

• The property’s value

• The mortgage term

• The lender’s affordability criteria

There is no single mortgage amount that everyone will qualify for.

A mortgage adviser can help you understand how much you may be able to borrow and which mortgage options could be suitable for your circumstances.

What is mortgage affordability?

Mortgage affordability is the process lenders use to assess whether you can afford the mortgage repayments.

Rather than simply looking at your salary, lenders may consider your income alongside your regular household expenditure and other financial commitments.

The aim is to determine whether the proposed mortgage is affordable both now and under certain potential changes in circumstances.

What is a mortgage agreement in principle?

An Agreement in Principle (AIP), also known as a Decision in Principle or Mortgage in Principle, is an indication from a lender of how much they may be willing to lend, based on information provided at that stage.

It is not the same as a formal mortgage offer.

An AIP can be useful when looking for a property because it can give you an idea of your potential budget and demonstrate to an estate agent that you have started the mortgage process.

However, the lender will still need to complete its full assessment before issuing a formal mortgage offer.

What are the costs of getting a mortgage?

The cost of buying a home involves more than your deposit and monthly mortgage payments.

Depending on your circumstances, you may need to budget for:

• Mortgage arrangement or product fees

• Valuation fees

• Survey costs

• Conveyancing fees

• Stamp Duty Land Tax, where applicable

• Mortgage adviser fees, where applicable

• Land Registry fees

• Removal costs

• Buildings insurance

• Potential early repayment charges

Some mortgage products have fees attached to them, while others may have different pricing structures.

It is important to consider the overall cost of the mortgage, rather than focusing solely on the interest rate.

What is a mortgage interest rate?

The mortgage interest rate is the rate charged by the lender for borrowing the money.

For example, if your mortgage has an interest rate of 5%, interest will be charged on the outstanding mortgage balance according to the terms of the mortgage.

Your interest rate can have a significant impact on your monthly payments and the overall cost of your mortgage.

This is why comparing mortgage products is about more than simply asking which lender offers the lowest headline rate.

Can you overpay your mortgage?

Some mortgages allow you to make additional payments towards the balance.

Overpaying can potentially reduce the amount of interest you pay and may help you repay the mortgage sooner.

However, mortgage products can have restrictions on overpayments, particularly during fixed-rate periods. Early repayment charges may also apply in certain circumstances.

Always check your mortgage terms before making a significant overpayment.

What happens if you cannot pay your mortgage?

If you are struggling to make your mortgage payments, it is important to contact your lender as soon as possible.

Ignoring the problem can make the situation more difficult.

Your lender may have options available to help borrowers experiencing financial difficulties. The appropriate solution will depend on your circumstances.

If you think you may have difficulty making your mortgage payments, seek professional financial advice as soon as possible.

How do you apply for a mortgage?

The mortgage application process can vary between lenders, but it will generally involve several stages.

1. Work out your budget

Consider how much you can afford to spend on a property and how much deposit you have available.

2. Check your mortgage options

You can research mortgage products yourself or speak to a qualified mortgage adviser.

3. Obtain an Agreement in Principle

An AIP can give you an indication of how much you may be able to borrow.

4. Find a property

Once you have an idea of your budget, you can start looking for a suitable property.

5. Make an offer

When your offer is accepted, you can progress with your mortgage application.

6. Submit your mortgage application

The lender will assess your application and financial circumstances.

7. Property valuation

The lender will normally arrange a valuation to assess the property as security for the mortgage.

8. Receive your mortgage offer

If the lender is satisfied with the application and property, it can issue a formal mortgage offer.

Your conveyancer can then continue with the legal work required to complete the purchase.

Mortgages for first-time buyers

For first-time buyers, getting a mortgage can initially seem complicated.

You may need to think about your deposit, affordability, mortgage rates, property prices and the additional costs involved in buying a home.

Getting an early understanding of your finances can help you establish a realistic budget.

A mortgage adviser can also explain the mortgage options available to you and help you understand the application process.

Final thoughts: What is a mortgage?

A mortgage is a long-term loan that allows you to borrow money to purchase a property, with the property usually acting as security for the borrowing.

Understanding how mortgages work, including deposits, interest rates, LTV, affordability and mortgage terms, can help you approach the home-buying process with greater confidence.

Before choosing a mortgage, consider the total cost of borrowing and make sure the repayments are affordable for your circumstances.

This article is intended as general information about mortgages in the UK and does not constitute financial or mortgage advice. Mortgage availability and lending criteria vary between lenders and individual circumstances. If you are considering a mortgage, consider seeking advice from an appropriately qualified mortgage adviser.