Come-hither home loans and the devil in the detail

They tempt you with low rates, then tie you in with redemption penalties. Clare Francis shows how to find the best deals in the mortgage maze

Choosing a mortgage can be mind boggling, with more than 4,000 products from around 150 different lenders on offer. Home buyers might think that the lowest rate is bound to be the best deal, but quite often this is not the case.

"Many lenders have what appear to be fantastic deals at face value, but when you get under the skin they are not as good as they first look," warns Drew Wotherspoon at The MarketPlace at Bradford & Bingley. "Borrowers must pay attention to all aspects of the deal, including fees and mortgage indemnity guarantees, and look at the total cost of the mortgage over the redemption penalty period – not just the initial periods, which may offer very attractive rates. Beware of the sting in the tail."

Mortgage broker Rainbow recently advertised mortgages starting at an excellent 1.89 per cent. What the advert failed to state was that this applied for only two years, after which the borrower would be switched to the standard variable rate (SVR) – currently 5.69 per cent – and that redemption penalties applied for a further six years. What's more, the product has a £595 arrangement fee. Once you take these factors into consideration, the deal is nowhere near as good as it first appears.

So how can you work out what's the best mortgage for you?

Ray Boulger, senior technical manager at mortgage broker Charcol, says that while there are general guidelines, much will depend on your individual circumstances: the term of the loan, whether you're purchasing or remortgaging, and how much you're borrowing expressed as a percentage of the price you're paying, known as loan to value (LTV).

As far as the generalities go, once you've decided whether you want a fixed or discounted mortgage, the first thing to look at is the headline rate. This will show you which lenders are offering the most competitive deals but, after that, you must look beyond the rate to see what other costs or benefits are involved.

For example, Charcol is offering an exclusive five-year product funded by Bristol & West, fixed at 4.29 per cent, while Leeds & Holbeck (L&H) also has a 4.29 per cent five-year fix. On closer examination, the two deals benefit different types of borrower.

The L&H product is available without mortgage indemnity guarantee (MIG) for loans up to 95 per cent, while the Charcol deal is MIG free only up to 85 per cent. So unless you've got a 15 per cent deposit, the L&H deal is probably better value. It is also more competitive for loans up to £240,000: the arrangement fee is £399 up to £200,000 and £399 plus 0.25 per cent above £200,000.

By comparison, the Charcol deal has an arrangement fee of £499; not until you borrow more than £240,000 does this fee work out cheaper than L&H's.

Mr Boulger stresses that you should try to avoid paying MIG if possible. A single premium insurance policy, it protects the lender should it have to repossess your property and sell it for less than the outstanding mortgage amount. Not only is it expensive (if you borrow 95 per cent, you'll pay MIG of about 1.6 per cent on the loan, while with a 100 per cent mortgage, the MIG fee would be about 3 per cent) but it's of no benefit to you as a home buyer. You are simply paying to protect your lender.

First-time buyers, who tend to have smaller deposits than existing home owners, are most likely to be caught in the MIG trap. Many lenders charge MIG only on loans of 95 per cent LTV or more, although some impose the penalty at lower levels. So it's probably worth going for a product with a slightly higher rate in order to avoid MIG.

Watch out, too, for extended redemption penalties. If you see a particularly low rate, such as the one from Rainbow mentioned above, there's bound to be a tie-in period. At the end of the discounted term your monthly premiums could soar. And in order to get out of that deal, you'll have to pay a penalty.

Mark Harris, director at mortgage broker Savills Private Finance, says that if a mortgage has no exit penalties at all, you should expect to pay a higher rate. But he adds that a lot of people are happy to go halfway, paying a moderate rate that carries redemption penalties during the initial term only. At the end of, say, the two-year fixed period, they won't be penalised for switching to a more competitive deal from another lender.

If you're taking out a repayment mortgage, Mr Harris also recommends you choose a provider that calculates interest daily rather than annually. Over the term of the loan, annual interest will cost you far more. Mr Harris says it's roughly the same as adding 0.15 per cent to the rate you're paying.

Some products are fee free or offer cashback, which can be attractive, especially for first-time buyers. It might also be cheaper to pay a higher rate of interest if there are no additional fees. Generally, if you're borrowing less than £50,000, you're almost certainly better off going for a fee-free deal and paying slightly more interest. If you're borrowing more than £150,000, the chances are you won't really benefit. In between those amounts, you will need to do some number crunching.

For example, the lowest three-year fixed-rate mortgage currently available comes from Accord and is set at 3.94 per cent. However, this deal carries a £600 charge for legal and valuation fees plus a £500 arrangement fee, so you'll be paying an extra £1,100 on top of the cost of the mortgage. The MarketPlace at Bradford & Bingley has an exclusive 4.15 per cent three-year fix, funded by Bristol & West, which, while appearing less competitive, is actually cheaper than the Accord deal for loans of less than £330,000. Although you'll pay £18 a month more for a £150,000 loan, the MarketPlace mortgage is fee free, and borrowers also receive £300 cashback. These savings outweigh the higher monthly payments.

If you are remortgaging, you must take into account the costs involved in this process, warns David Hollingworth at mortgage broker London & Country. So if you see a competitive deal, not only will you need to work out the difference between this and your current monthly repayments, you'll need to factor in the valuation and legal costs. Some lenders will offer to waive these, so here again, you could be better off going for a slightly higher rate.

Because mortgages are highly complex products, and there are so many different deals to choose from, it's usually a good idea to speak to an independent broker, who will do all the hard work and find the best available deal for you. But remember that, here too, there could be costs involved. Some brokers, such as London & Country, don't charge a fee and are instead paid commission by the mortgage provider. Many other brokers will charge customers a fee of around 1 per cent of the size of the loan.

Contacts: Charcol, 0800 718191, www.charcolonline.co.uk; London & Country, 0800 953 0304, www.lcplc.co.uk; Savills, 0870 900 7762, www.spf.co.uk; The MarketPlace at Bradford & Bingley, 0800 113333, www.marketplace.co.uk