Endowment Mortgages

How they work You don't pay off any of the loan until the end of the mortgage term. Your monthly payments are made up solely of interest. In addition, you pay premiums for an investment-type life insurance policy which will mature at the end of the mortgage term and be used to pay off the loan.

By far the most common mortgage of this type is the `low-cost endowment' mortgage. Low cost' means that, in order to keep premiums down, the insurance company guarantees to pay only a certain amount when the policy matures, but on top of this there will be bonuses added. It's hoped that the guaranteed sum plus the bonuses will be enough to pay off the mortgage - and perhaps leave a bit over for you as well.

A variation on the usual low-cost endowment mortgage is a unit-linked one. With this, you don't get bonuses. Instead the amount the policy pays out on maturity depends on the value of units in a fund of investments to which the policy is linked. This type of endowment mortgage is more risky than the others because the price of the units can fall as well as rise.

Other types of endowment mortgage are 'with profits' - which guarantees to provide enough to pay off the mortgage and you get the full benefit of the bonuses added; and 'non profit' - which guarantees to provide exactly the amount needed to pay off the mortgage with nothing to spare. Both these types of endowment mortgage are expensive compared with the 'low cost' route and are rarely used.

Points to note With all endowment mortgages, the insurance element will repay the loan in full if you die before the end of the mortgage term, so there's no need to take out separate insurance to protect your dependants. If you move your mortgage, you might find the new lender is unwilling to accept your existing endowment policy and might insist that you take out a different one. But an endowment policy is a poor short-term investment and if you cash it in early you could get back very little (even less than you've paid in premiums), so you'd be wise to carry on the endowment policy even if it's no longer linked to your mortgage or, better still, find a lender who will accept your existing policy.

WARNING Don't be too impressed by quotations saying

how much your policy will eventually be worth. Quotations are covered by the Financial Services Act 1986 and must use standard assumptions about investment returns and charges, so all companies give the same quotes for the same type of policy. And bear in mind that inflation will erode the proceeds of the policy, so that the handsome-sounding surplus you might get once the mortgage is paid off might not be worth a great deal in 25 years' time. Equally, it's possible though unlikely - that the proceeds of a low-cost endowment policy might not be enough to repay the whole mortgage, but any shortfall is likely to be very small after taking inflation into account.

Verdict Depending on the policy you choose and the level of interest rates, payments for a low-cost endowment mortgage can work out lower than for a repayment mortgage. But endowment mortgages are less flexible than repayment mortgages if you run into problems keeping up the payments. And the insurance element of an endowment mortgage could be expensive if you have a history of poor health. The built-in life cover is useful if you have dependants.

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Repayment Mortgages

How they work Your monthly payments are part repayment of the amount you've borrowed (the capital) and part interest. In the early years, most of the payment is interest. In later years more of your money goes towards paying off the capital.

There are two types of repayment mortgage depending on how the tax relief is worked out. With a 'level repayment' mortgage, your payments (after tax relief) stay the same throughout the mortgage except when interest rates or the basic tax rate changes. An 'increasing repayment' mortgage is harder to find; with this, your repayments are lower in the... see: Repayment Mortgages

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