What is a Mortgage?

A mortgage is a loan: you borrow money from a lender, such as a bank, and you pay it back - along with interest - over a period of time. So far, it is like any other kind of loan.                            

The key difference is that a mortgage is secured against your home. You get the money up front; the lender gets the interest, plus a guarantee of the property should things go wrong. In other words, if for any reason you cannot keep up with the payments and you are unable to repay the loan, the lender is legally entitled to take possession of and sell the property - and that usually means your home - to recover its money.

The mortgage itself is made up of two separate parts:

- The capital is the amount of money you borrow to buy the property.

- The interest is the amount the lender charges for lending you the money.

The loan is made up of two elements:

• The capital: the amount of money you borrowed to buy your property, a.

• The interest: the amount the mortgage lender charges for lending you the money. The interest is, in effect, the borrower’s fee, which continues to grow until the debt is repaid. If you borrow £1000 at an interest rate of 5%, you will pay £1005.

But then there is the effect of “compound” interest: the following year, the lender earns interest not only on the original capital, but also on the interest from the first year; the next year, the lender earns interest on the capital and the first two years’ interest and so on. Of course, the same principle works with savings.

To reduce the amount owed, mortgages (other than interest-only mortgages) include an amount of capital (a tiny amount at first) in the monthly repayments.