Mortgage

A mortgage is a loan that a bank grants to a household or a company for buying real estate in which this property is taken as collateral. This type of loan deals with a considerable amount of money and is mainly used for long-term financing purposes. The borrower is obliged to pay back the full amount of money and to pay interest on the outstanding amount during the full period of the loan. When the borrower can’t meet his duties, the bank seizes the property in order to recover the loan. In what follows, we show how to calculate your mortgage payments and how to calculate your mortgage interest for various types of mortgages.

Mortgage type

Mortgages can be granted into various forms. In a linear interest loan, the capital is repayed linearly through time. For example when a 10 year mortgage is granted, with monthly repayments, the borrower pays back 1/120 (120=10 years * 12 months a year) of the loan + interest. In an annuity, the borrower pays back a fixed amount of money back every month. This amount consists out of capital repayments and interest. As times goes by, the interest part on the annuity declines whereas the capital repayments rises. In a bullet mortgage, the capital is repayed only when the loan matures.

Mortgage term

A mortgage loan is typically a long-term loan with terms ranging from 10 years, to 15, 20, 30 and even up to 40 years. This term is important as it will influence capital repayments on the mortgage (if any). The longer the term is, the lower the amount is periodically repayed. Secondly, the term will also influence the interest rate. Typically, banks charge higher interest rates for longer term of borrowing. This is mainly due to the fact that the yield curve is typically upwards sloping.

Interest rate type

Mortgages can be categorized into 2 types: fixed rate and floating rate. In fixed rate mortgages banks set the interest rate they are charging for the entire period. In floating rate mortgages the interest rate changes periodically, every x months or x years. Alternately, the interest rate could be fixed for an initial period and therefore change every x months or x years.

Interest rate type pros and cons

Both interest rate types have their benefits and drawbacks. The advantage of a fixed rate mortgage is that interest you pay on the loan remains fixed. This has the advantage that you know in advance what you are going to pay when. Additionally, increasing interest rates on the market have no single effect on you costs. On the other side, when market interest rate drop, you don’t have the advantage of having cheaper financing. Floating rate mortgages on the other hand are exposed to the market interest rates which can be beneficial or not. In the long run, floating rate mortgages tend to be cheaper as banks add a risk premium for fixed rate bonds.

Interest rate

Banks charge a cost for lending money to people buying a house. They do this through charging an interest rate. The higher this interest rate, the higher the cost for borrowing money. The interest rate depends on the term you are borrowing. The longer the term you are borrowing money, the higher this charged interest rate is. For example, the interest rate on a 10-year mortgage loan is lower than one on a 20-year mortgage loan. Secondly, the interest rate depends on the chosen mor

Summary

A mortgage is a loan in which the bank takes collateral on a property. It is mainly used for long-term financing purposes. Their exist various types of mortgages with various interest rate types and term till maturity.

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