One aspect of selecting a mortgage that doesn’t get enough attention - especially among first-time buyers – is the mortgage term. Most of the focus and attention goes towards interest rates. Therefore, some home buyers forget about the importance of the mortgage term and its effect on overall borrowing costs.
As experienced mortgage advisers, we always encourage our clients to pick the correct term based on their specific circumstances and supported by data.
How do mortgage terms work?
A mortgage term is the length of time you will repay your mortgage, which will be the same amount of time required to repay the full loan amount and the interest applied. For example, a 25-year repayment term means the home buyer will need to make monthly mortgage repayments for 25 years to fully repay their loan and the interest applied. Choosing a longer mortgage term will mean lower monthly repayments, but the overall repayment could be much higher because you have more years to pay interest across.
If the interest rate on the loan changes, the monthly repayment amount is recalculated, but the repayment term stays the same. Of course, some people manage to repay their mortgage earlier if their mortgage allows or if the homeowner is prepared to pay early repayment charges.
Evolution of mortgage terms
The length of mortgage terms has evolved over time. There has been a shift towards longer mortgage repayment terms, which has been attributed to specific economic events. Today, the UK average mortgage in the UK is 30 years, with 41% of all mortgages having a term longer than 25 years.
Prior to the 2008 Financial Crisis, the percentage of mortgages with a term beyond 25 years was just 14%. The events of 2008 were a turning point in mortgage terms, but the more recent pandemic has also led to increased mortgage length, which is why 40-year mortgages are now more widely available than ever before.
There appears to be a correlation between economic downturn and increased mortgage terms. This would make sense, given the poor economic conditions, especially with high inflation, which would result in a demand from borrowers to spread smaller monthly repayments over a longer period.
25-year mortgage pros & cons
As explained above, a 25-year mortgage is a mortgage that will be repaid in full within 25 years, including the capital loan amount and all interest.
The pros of a 25-year mortgage are:
- Own your home quicker than longer mortgage terms
- You pay less interest overall compared to longer terms
- The overall borrowing cost is less compared to longer terms
The cons of a 25-year mortgage are:
- Monthly repayments are higher
- Due to the higher repayments, there is an increased chance of missing payments, defaulting, and, consequently, repossession
- Increased risk from a heavier financial and psychological burden
40-year mortgage pros & cons
A few years ago, it was very difficult to find multiple 40-year mortgage options – but things have changed. There are now more options than ever. These mortgages also have their pros and cons.
The pros of a 40-year mortgage are:
- Lower monthly repayments
- Reduced chance of defaults and foreclosure (due to cheaper repayments)
- Ability to plan budgets more easily
The cons of a 40-year mortgage are:
- It takes longer to own your home outright
- You pay more interest due to the longer mortgage term
- The overall borrowing cost is much higher than shorter terms
- The interest rates may change more over the increased period
Which term to choose, a 25-year or 40-year term?
The right mortgage terms can only be identified based on individual circumstances, long-term financial goals and personal preferences.
There may be times when a longer mortgage term with smaller monthly repayments is more suitable, such as when you would otherwise struggle to borrow the amount needed for the purchase. On the other hand, if you’re borrowing well within your means based on your income, a shorter mortgage term will save you considerably in the long run.
Financial advisers and mortgage brokers
Financial advisers and mortgage brokers can provide advice when it comes to all aspects of choosing a mortgage, including mortgage type and mortgage term. By making an informed and beneficial choice on this topic, your adviser could help you save considerable amounts of money over the life of the loan.
How to choose the correct mortgage term?
It’s a question our advisers are frequently asked, and the answer depends on individual circumstances and preferences. Our experts can offer carefully calculated advice on the most suitable mortgage options. Book a consultation as part of our expert mortgage advice services.
