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Introduction As the number of different loan options available grows rapidly, primarily as a response to the changes in the economic environment, the definition of the different types of loan available becomes more complicated. It is often the case that the lenders themselves understand the types of loan, but consumers are normally left in the dark or just plainly confused. This article attempts to isolate each individual loan type and, without going into complicated mathematics or explaining in detail the individual loan parameters, gives a layman's guide to the different types of loan. Prime Mortgage As well as 'Prime' these are also referred to as 'Mainstream Mortgages' or 'First Charge Mortgages'. These are mortgages for people with very little or no credit history problems and normally offer the most competitive rates. The term 'First Charge' means that the lender who you hold this type of mortgage with has to be the first paid if you ever fell into financial difficulties. Historically, the phrase probably has roots from the expression 'Prime Lending Rate', which is the lowest interest rate a bank charges its customers with the highest credit score. Wanting to reduce the risk to themselves, some banks and building societies will only offer prime mortgages. Sub Prime Mortgage Confusingly again, these are sometimes referred to as 'Second Charge', 'Credit Impaired', 'Credit Repair' or by the industry 'Niche Mortgages'. The term 'Second Charge' is used when someone already has a mortgage with another company, but has taken out a second mortgage to raise money. The provider who holds the 'Second Charge' element of a loan is paid after the Prime lender mentioned above. The term 'Credit Impaired' is sometimes used because people who take out these loans normally have something wrong in their credit history. This may be County Court Judgements (CCJs), bankruptcy, owing substantial money on store or credit cards or have a history of missing mortgage payments. The term 'Credit Repair' is sometimes used when a bank puts someone on a higher interest rate for a set period of time. This will be because of what the banks sees as a potential lapse in credit worthiness through things like divorce or redundancy. The idea behind these is that at the end of the 'Credit Repair' period, if all has gone well and the customers credit record has improved, they are given the chance to switch back to a Prime Mortgage. The expression 'Niche Mortgage' comes from the fact that some lenders and brokers see dealing with people with credit problems as a niche market and, indeed, some lenders actually target the niche market. The interest rate charged on a Sub Prime mortgage is always higher than a Prime one. Secured Loan A secured loan as it is normally a further loan on top of an existing mortgage is also called a 'Second Charge' loan. A secured loan is typically taken out when a borrower has exhausted all other forms of credit available or has an impaired credit record. Secured loans are, as their name implies, secured on property, but typically the borrowers mortgage will be paid off first if the borrower was to go into default. Although typically taken out by borrowers with an impaired credit record, secured loans also have their place with mainstream customers. A secured loan only takes two to three weeks to set up, whereas a mortgage can take much longer and this type of loan also has no upfront charges. Some people also take out a secured loan as an alternative to re-mortgaging if their existing mortgage is at a competitive rate. The problem with secured loans is that the interest charged will normally be at a higher rate than a prime mortgage. Home Reversion Plans In simple terms Home Reversion Plans (HRPs) are where you sell all or part of your home in return for a lump sum or a series of payments. The person taking out the HRP then effectively becomes a tenant in their own home with the right to reside there until they die or move out. How much you get for selling your home depends on your life expectancy, which will be influenced by a number of factors including your age, gender and health. In short the longer you are expected to live the lower the amount of money you will receive as settlement of a HRP. An example of a HRP is a couple aged 74 with a £500,000 home could get 40-45% of the value of the proportion they sell. If they sold 50 per cent of the house and received 40% of that sum, this would equate to a lump sum of £100,000 (i.e. 40% of £250,000). The homeowners retain the right to live in the property rent-free until they die, but would be responsible for maintenance and upkeep of the property. On the death of the owners the property would be sold by the HRP holder and after deducting costs they would receive the sale proceeds from their proportion of the property. Some older people use a HRP as a way of reducing Inheritance Tax (IHT). They release the equity in their homes and gift it to their benefactors. If this is done before 7 years prior to death it can be a way of greatly reducing IHT. LifeTime Mortgage A lifetime mortgage is when a loan is taken out against a property and is only payable upon the borrower dying, being put into permanent care or on the sale of the property. There are no monthly repayments on a lifetime mortgage and interest rolls up until one of these events occur, so can eat into the overall inheritance of offspring. The benefit of a lifetime mortgage is that it can again be used as an aid to reduce inheritance tax by the form of gifting the proceeds of the loan to benefactors, but the same seven-year rule still applies. Some people use a Lifetime Mortgage as a method of also reducing Capital Gains Tax (CGT). When people die and leave their belongings to their family, or indeed anyone else there is no CGT to pay at the time. When the property is eventually sold, CGT is based on the difference between the proceeds of the sale and the market value at the time of death. Unfortunately Lifetime Mortgages are also charged at higher interest rates than standard mortgages.
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