What are mortgage terms, and how do they work?
When you get a mortgage, you agree how long you’ll take to pay it off. This affects what you pay each month and over the lifetime of the mortgage. Here’s what to consider before you decide which term length is right for your finances.
When you take out a mortgage, you’ll agree a mortgage term with your lender. With options from five years to 40 years, it’s important to understand what that number means for your finances over time.
What are mortgage terms?
The term of a mortgage is how long you’ll have the mortgage for and will be making payments to your lender.
With a repayment mortgage, the term is the length of time you’ll take to pay back the money you’ve borrowed plus interest charged, and any other fees added to the mortgage. Your mortgage balance will get smaller each month and at the end of the agreed term, there will be no outstanding debt, provided you’ve met all payments.
So if you take out a 25-year repayment mortgage in 2021 when you’re aged 30, you’re set to be mortgage-free by 2046, when you’re 55.
With an interest-only mortgage, the term is how long you’ll pay interest charged on your original loan. At the end of the term, you’ll need to pay back the amount you borrowed.
A mortgage term isn’t the same as a mortgage deal. A mortgage term is the complete lifespan of the mortgage, and the number of years you’ll be set to make payments to the lender until it’s paid off, or, if you have an interest-only mortgage, when you finish paying interest on the original loan.
A mortgage deal is the rate of interest you pay for a certain period of time, such as a fixed rate over two or five years, before moving onto another deal or your lender’s standard variable rate (SVR).
How long are mortgage terms?
The standard mortgage term in the UK is 25 years, but longer-term mortgages that run for 30 or more years are increasingly common, with some lenders offering 40 years. The shortest mortgage term is around five years.
When you’re deciding on a mortgage term, bear in mind some lenders won’t agree to a term that extends beyond a certain age. So they may stipulate a maximum age you can be when your mortgage term will end. The term you are offered will also relate to your financial situation and the affordability of the loan.
How do mortgage terms affect interest paid?
The longer your mortgage term, the lower your payments will be, because you're spreading the cost over a longer period of time. But, as well as taking longer to pay off the balance, you’ll pay more in interest over the lifetime of the mortgage – and it’s no drop in the ocean.
For example, say you’re taking out a repayment mortgage. If you borrow £150,000 over a 25-year term and pay 3% interest throughout, with a monthly payment of £711, you’d pay £213,387 overall, plus any additional fees.
If you borrowed the same amount over a 40-year term at the same rate of interest, your monthly payment would be £537, and the overall cost would be £257,614. That’s a difference of over £44,000.
With a repayment mortgage, the amount of interest you pay is calculated on the amount left to repay, and can be a fixed or variable rate, depending on the deal. During the first few years, you pay more in interest than repaying the capital borrowed. Towards the end of the term, when you’ve paid most of the loan off, you pay more towards the loan amount than you pay in interest.
The interest on an interest-only mortgage is charged on the full outstanding debt, which doesn’t decrease over time.
How long should your mortgage term be?
The length of your mortgage term depends on your personal circumstances, including your budget, your age, and the overall affordability of the loan.
When it comes to total cost, it follows that the shorter your mortgage term, the better. Not only will you save money in interest, but you’ll be mortgage-free sooner.
However, for first-time buyers, a longer term may be a more affordable way to get on the property ladder, due to the lower monthly payments. Just be aware that when you move off your introductory mortgage rate, you may be switched to a higher interest rate and your payments may increase, unless you remortgage to a deal with a similar or lower interest rate.
How can overpayments affect your mortgage term?
Whatever your mortgage term, you may have the flexibility to make overpayments. This means paying more than the agreed monthly amount regularly or as a lump sum. This effectively shortens your mortgage term, as you’re clearing the debt more quickly.
There are usually overpayment restrictions, though, where you can’t exceed a certain amount without paying a penalty. This is often the case with fixed-term deals. So make sure you’re clear on whether your mortgage agreement offers this facility, and when any penalties kick in. Also consider when the best time to make one-off overpayments is.
Using our mortgage overpayments calculator, you can see an example of how regular monthly overpayments might shorten your mortgage term, as well as the money you might save over time.
Can you extend or reduce your mortgage term?
It’s possible to change the term after taking out a mortgage. You’ll usually need to go through affordability checks, and you should factor in any fees charged by your lender.
Extending the term will reduce your monthly repayments, but you’ll pay more interest overall. Some lenders may be reluctant to extend mortgage terms for older borrowers, preferring the debt to be cleared before retirement.
Shortening the term means paying less interest overall, but make sure you can afford moving to regular, higher monthly payments, and consider if the flexibility of overpayments might be a better fit.
Changing your mortgage term can have a big impact on your finances, so be clear about your options before going ahead. Ask your lender if you have any questions, and consider speaking to a mortgage adviser if you’re not sure what’s right for you.
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Holly champions clear, jargon-free writing. She’s been creating finance content for leading organisations for over 10 years, with expertise in insurance, wills and probate, and all things health. Read more