You may not have heard of offset mortgages before or be aware of their potential but they can help you make considerable savings. These flexible mortgages allow you to either reduce the amount of interest you pay each month or shorten your mortgage term.
How does an offset mortgage work?
With an offset mortgage, you link your mortgage to your savings account, which must be held by the same lender. The balance of your savings is offset against your mortgage value, reducing the amount of interest you pay. Your savings aren’t used to pay off any of your actual mortgage, just to reduce your interest payments. For example, if you have a £300,000 offset mortgage for your home in Bexleyheath and this is linked to your savings account of £15,000, you will only have to pay interest on £285,000.
For a standard mortgage, you are charged interest on the total outstanding balance of your loan. Therefore, over the full term, you can make considerable savings on your interest payments with an offset mortgage.
You don’t receive any interest on your linked savings account but you can access your savings at any time. The interest rate charged for your offset mortgage may be slightly higher than for a standard mortgage. Therefore, it’s important to compare the deals available and check the potential savings to be made with each option.
The flexibility of an offset mortgage
Choose your benefit
When you take out an offset mortgage, you can choose to either reduce your monthly payments or shorten your mortgage term. If you decide to go for the latter option, you make the same repayments each month but the term of your mortgage is reduced. Not only does this allow you to become mortgage-free much sooner but it means you pay less interest over the shorter term, saving you more money overall.
Increase or withdraw your savings
You can pay extra funds into your savings account. This increases the amount of money offset against your mortgage and saves the amount of interest you have to pay.
Although your savings account is linked to your offset mortgage, you can still access your savings and withdraw them when you need to. Bear in mind that when you withdraw a sum, this amount won’t be offset against your mortgage loan any more. In turn, this increases the interest payable. For example, if you have a £270,000 offset mortgage for your home in Bexley and this is linked to a savings account of £20,000, you only pay interest on £250,000. However, if you withdraw £15,000 from your savings, you then pay interest on £265,000. Some lenders insist that you keep a minimum balance in your savings account so check this first before making a withdrawal.
You may have the option to make overpayments with your offset mortgage. This repays part of your actual mortgage loan, reducing the final amount owed. As the loan amount is reduced, so too are the interest repayments. The downside to this is that you cannot have access to that money again, which you would if you used the money to increase your savings instead. Also, check with your lender as to whether you will be liable for early repayment charges.
Help your child with a family offset mortgage
An offset mortgage is a great way for you to help your child get onto the property ladder. Some lenders allow you to link your savings account to your child’s offset mortgage. Although you won’t earn interest on your savings, the interest payable on your child’s mortgage becomes less. This is a good way for the Bank of Mum and Dad to help your child if you’re not so keen on guarantor mortgages, joint mortgages or giving a gifted deposit.
Is paying a bigger deposit better than offsetting?
When you pay a bigger deposit, the amount you need to borrow for your mortgage is lower. With a lower loan-to-value (LTV) ratio, better deals with lower rates will be offered to you by lenders.
However, by paying this money into a savings account linked to an offset mortgage instead, you pay interest on a smaller loan amount. You also have access to your funds should you need them in the future.
The advantages and disadvantages of offset mortgages
There are various advantages and disadvantages to consider.
- The interest charges are reduced. You can either pay a lower monthly amount or pay the same amount each month to settle your mortgage loan faster.
- You can save more money than if you had a normal savings account. The current interest rates offered on savings accounts are very low. Although you don’t earn any interest at all on a savings account linked to an offset mortgage, the amount you can save by reducing your mortgage interest payments will usually outweigh what you could make with a standard savings account.
- You can withdraw your savings if you need to.
- You can make overpayments, helping you to become mortgage-free sooner.
- You don’t pay tax on the savings. As you’re using your savings to pay off your mortgage rather than earn interest, you are not taxed on them. This is particularly beneficial if you are a higher rate or additional rate taxpayer.
- You can help your child get onto the property ladder.
- Interest rates payable tend to be slightly higher for offset mortgages than for standard mortgages.
- You don’t earn interest on your savings.
- You may be liable for early repayment charges if you choose to make an overpayment.
Is an offset mortgage right for you?
If you have variable income and outgoings each month, such as if you’re self-employed, but have significant savings, an offset mortgage can be advantageous for you. Also, with employment options being so volatile due to the coronavirus crisis and with the current low interest rate, offset mortgages can be more beneficial in some cases than standard mortgages. An offset mortgage also encourages you to save. It can be a quicker way to clear your mortgage than other methods, such as remortgaging.
Before making a decision about which Welling and Pimlico mortgages are the right choice, it’s important to get expert advice from your financial adviser in Kent, London or Edinburgh. Depending on your goals and financial situation, they can help determine which option is best for you. They can compare the interest rates, terms and savings you can make. The optimum solution will be based on factors that include the size of the mortgage loan you are looking for, the amount you have as savings and whether you are able to make regular deposits into your savings account.