How Does a Mortgage Work?

How does a mortgage work?

A mortgage is a loan from a bank or building society. You use it to buy a property. You repay it in monthly instalments. Each one covers the interest charged and part of the amount borrowed. Over the term, typically 25 to 35 years, you pay off the full loan and own the property outright.

The property is the security. If you miss payments, the lender has the legal right to repossess it and sell it to recover what you owe.

How is a mortgage generally repaid?

You repay in level monthly instalments over an agreed term. Each instalment covers the interest built up since the last payment, plus a slice of the amount you borrowed. This is called a repayment mortgage. It is sometimes written as ‘capital and interest’. The large majority of UK residential mortgages are repaid this way.

Three things normally stay fixed: the term (how many years you have to clear it), the payment date, and, while you are on a fixed-rate deal, the amount that leaves your account. What changes every month is what the payment is made of. The interest part shrinks. The capital part grows by exactly the same amount. The total stays level.

The other option is an interest-only mortgage. Here the payment covers the interest and nothing else. The balance never moves, so the full original loan is still owed on the last day of the term.

How do mortgage payments work, and how are they applied?

Every payment goes to interest first and capital second. The lender works out the interest owed on the balance you have now. It takes that out of your payment and puts whatever is left against the debt. The balance is biggest on day one, so the interest slice is biggest on day one too. That is why early payments barely seem to dent the loan.

Most UK lenders calculate interest daily and charge it monthly. So the exact pennies depend on how many days are in the month and when your payment lands. Some older products use monthly or annual rest instead. This shifts the timing slightly. The shape of the split is the same either way.

What each payment is actually made of

Take £200,000 borrowed at 4.5% over 25 years on a repayment basis. The 4.5% is an illustrative rate, used to show how the mechanics work. It is not a quote or a current market average. It gives a monthly payment of about £1,112.

This shows what that same £1,112 is made of at the start of selected years. Figures are rounded to the nearest pound.

The payment never changes, but the job it does changes a lot. In month one, only about a third of the money buys any of the house. By year 20, three quarters of it does.

Here is the first payment worked through by hand, so you can see where the numbers come from:

• Interest charged on the £200,000 balance: £200,000 × 4.5% ÷ 12 = £750
• Capital paid off: £1,112 − £750 = £362
• Balance after month 1: £200,000 − £362 = £199,638

Next month, interest is charged on £199,638 rather than £200,000. So it comes out a little lower, and a little more of the payment goes to capital. Repeat that 300 times and you get the table above.

Three things about the split that catch people out

• The crossover is late. On these numbers, it takes until month 116, roughly nine years and eight months in, before more of the payment goes to capital than to interest.
• Halfway through the term is nowhere near halfway through the debt. After 12 years and 6 months, exactly half the term, the balance is still just over £127,000. Just under £73,000 of the £200,000 has been cleared, around 36%. Over the same period, more than £94,000 has been paid in interest.
• The total is a lot bigger than the loan. Over the full 25 years the payments come to £333,500: the £200,000 borrowed plus £133,500 of interest. That is about £1.67 paid for every £1 borrowed.

None of that is a penalty or a hidden charge. It is what happens when interest is charged on a balance that starts high and falls slowly. Those pounds are also not all worth the same. A payment that stays flat in cash terms generally gets easier to afford as wages and prices rise over a couple of decades. This is one of the quieter effects of inflation on long-term debt.

How are mortgage payments calculated?

The monthly figure comes from the standard amortisation formula. It works out the level payment that clears the loan in exactly the agreed number of months:

Monthly payment = P × r × (1+r)ⁿ ÷ ((1+r)ⁿ − 1)

P = loan amount, r = monthly interest rate (annual ÷ 12), n = number of monthly payments (years × 12).

Two inputs move that number more than anything else. A higher rate raises the payment. A longer term lowers the monthly payment but raises the total interest, because the balance stays outstanding for longer. Stretching a mortgage to 35 years instead of 25 makes each month cheaper but the total cost higher.

Does overpaying change the split?

Yes. It is the one lever that moves the numbers a lot. An overpayment goes straight to capital. So it does not just clear that pound of debt. It also cancels every future month of interest that pound would have generated. The earlier it lands, the more months it cancels.

On the same £200,000 at 4.5% over 25 years, an extra £100 a month from the start clears the mortgage in 21 years and 6 months rather than 25. That is 3 years and 6 months early. It also cuts total interest from £133,500 to about £112,400, which is roughly £21,100 of interest avoided.

The limit is the early repayment charge. Most deals allow overpayments of up to 10% of the outstanding balance a year without a charge. Going over that during a fixed-rate period usually triggers one. The mortgage offer document sets out the exact allowance. It varies by lender and product.

What is the difference between a repayment and interest-only mortgage?

With a repayment mortgage, monthly payments cover both interest and a slice of the loan. So the balance falls over time and is cleared at the end of the term. With an interest-only mortgage, payments cover only the interest. The original loan stays the same and must be repaid separately at the end.

• Repayment mortgage: your monthly payment covers both interest and a slice of the capital (the amount borrowed). By the end of the term, the mortgage is fully paid off and you own the home outright. This is by far the most common type for residential buyers.
• Interest-only mortgage: you pay only the interest each month. The capital stays the same throughout. At the end of the term, you still owe the full original loan. You need a credible plan to repay the capital, for example by selling the property or using a pension lump sum. Common in buy-to-let, rarer for residential.

What is the difference between a fixed rate, tracker, and SVR mortgage?

A fixed-rate mortgage locks your interest rate for a set period, typically 2–10 years. Monthly payments stay the same regardless of Bank of England base rate changes. A tracker rate moves in line with the base rate. A Standard Variable Rate (SVR) is your lender’s default rate. It is usually the most expensive option. You move onto it when a fixed or tracker deal ends.

As of 16 October 2026, the Bank of England base rate is 3.75%. The official figure is on bankofengland.co.uk. It has been at that level since December 2025, when the Monetary Policy Committee cut it from 4.00%. The MPC meets roughly every six weeks and can move the rate at any of those meetings. So a tracker payment only stays settled until the next decision.

• Fixed rate: your interest rate is locked for a set period, typically 2, 5, or 10 years. Your monthly payment doesn’t change during this period, regardless of what happens to the Bank of England base rate. Widely used by borrowers who prefer payment certainty.
• Tracker rate: your rate moves in line with the Bank of England base rate (for example, base rate + 1%). If the base rate rises, your payment goes up. If it falls, you benefit immediately. Higher risk, sometimes lower initial rate.
• Standard Variable Rate (SVR): your lender’s default rate, which they can change at any time. Usually the most expensive option. You end up on the SVR when your fixed or tracker deal expires. At this point, many borrowers review their options. These include switching to a new deal with the same lender or a different one (known as remortgaging). Speaking to a regulated mortgage adviser is the appropriate route.

What is LTV?

LTV stands for Loan-to-Value. It’s the size of your mortgage expressed as a percentage of the property’s value.

If you buy a £300,000 home with a £30,000 deposit, you’re borrowing £270,000, an LTV of 90%.

LTV matters because it directly affects your interest rate. The lower your LTV, the less risk the lender takes, and the better the rate it offers. Moving from 90% to 75% LTV can save you thousands of pounds a year in interest. As you pay down your mortgage and house prices rise, your LTV improves. That means better rates when you remortgage.

How much can I borrow?

Most lenders will offer up to around 4.5 times your annual income as a rough starting point. So on a salary of £40,000, you might borrow up to £180,000.

In practice it is more complex. Lenders look at your income, outgoings, credit history and existing debts. They also check whether you pass their affordability stress test. This checks that you could still afford payments if rates rose. Joint mortgages combine both applicants’ incomes.

Note that lenders work from gross salary. The payment, though, leaves the account you get paid into, after income tax and National Insurance have come out. The gap between those two numbers is wide enough to matter. The take-home pay calculator turns a gross salary into a monthly net figure. That is the number a monthly mortgage payment has to come out of.

What do I need upfront, besides the deposit?

The mortgage covers the property. Everything else on completion day comes out of cash you already have. This is the part that tends to surprise first-time buyers.

Stamp Duty Land Tax is usually the biggest of these in England and Northern Ireland. Scotland and Wales have their own separate versions. First-time buyer relief means no SDLT on the first £300,000. It then charges 5% on the part between £300,001 and £500,000. Above a £500,000 purchase price, the relief disappears entirely and the standard rates apply instead. Those are nothing up to £125,000, 2% from £125,001 to £250,000, and 5% from £250,001 to £925,000. The stamp duty guide walks through how the bands stack.

On top of that come conveyancing fees, searches, a survey if you have one, removal costs, and the lender fees listed further down this page.

Saving the deposit itself

Deposits are usually built up in a savings account or an ISA. One product is aimed specifically at first homes: the Lifetime ISA. You can pay in up to £4,000 a tax year. The government adds a 25% bonus, worth up to £1,000 a year. It can be opened between the ages of 18 and 39, and paid into until you turn 50.

The rules for getting the money out are strict. It is worth knowing them before the money goes in. A charge-free withdrawal for a first home needs the property to cost £450,000 or less. The account must also have been open at least 12 months. If you take the money out for any other reason before age 60, a 25% withdrawal charge applies. This takes back the bonus and a slice of your own savings with it. The LISA withdrawal rules cover the exceptions. The £4,000 counts towards your overall £20,000 annual ISA allowance. It does not sit on top of it.

One live development: on 22 June 2026, the government opened a consultation on a new First Time Buyer ISA. It is proposed to replace the Lifetime ISA. The bonus would be paid at purchase, with no withdrawal charge. The consultation closed on 18 August 2026. No start date has been set. Lifetime ISAs can still be opened until the new product exists. Existing holders can keep saving under the current rules.

What happens when my deal ends?

When a fixed or tracker deal ends, the borrower moves automatically onto the lender’s SVR. Each lender sets its own SVR rate. The SVR is not directly tied to the base rate, though it tends to move broadly in line with it.

Many lenders let borrowers lock in a new deal up to 6 months before the existing deal expires. Switching to a new mortgage product is called remortgaging. This can be with the same lender (a ‘product transfer’) or a different one. The FCA’s consumer guidance on mortgages is available at fca.org.uk/consumers/mortgages.

What fees come with a mortgage?

Mortgages come with several fees beyond the interest rate. The most significant are the arrangement fee (up to ~£2,000 to set up the deal), valuation fee (charged by the lender to assess the property), early repayment charge (a penalty of typically 1–5% for leaving a deal early), and any broker fee if you use a mortgage adviser.

• Arrangement fee: the lender’s admin fee to set up the mortgage. Can be £0–£2,000. It can often be added to the loan, but you then pay interest on it.
• Valuation fee: the lender values the property to confirm it’s worth what you’re paying.
• Early repayment charge (ERC): if you pay off your mortgage or switch during the initial deal period, you often pay a penalty, typically 1–5% of the outstanding loan. Check before overpaying or remortgaging early.
• Broker fee: if you use a mortgage broker, they may charge a fee (or be paid by commission from the lender).