CHOOSING THE RIGHT type of mortgage can save you thousands of pounds in the long term. If appropriate to your particular situation, one of the less common types worth considering is an offset mortgage.
Offset mortgages (and their predecessors, current account mortgages) have permanently changed the way that many Britons think about their mortgage. They can either help you reduce your monthly payments, or shorten the term and help you get mortgage-free sooner.
Typically you may want to consider offsetting if you have savings that you require access to but are unhappy with the disappointing interest rates offered by easy access accounts.
Higher-rate tax payers may also want to consider offset mortgages as their savings will attract no interest and they will not have to declare this as taxable income. In other words, because you are effectively putting interest earned from savings or from a lump sum of money earned towards your mortgage, it is tax-free.
Applicants who are self employed can use money set aside to pay their tax bill to offset and landlords can have their rental income paid into a savings account linked to their own residential offset, which can help reduce their own mortgage interest so is also very useful.
WHAT IS AN OFFSET MORTGAGE?
An offset mortgage is linked to a special savings account to let you reduce how much mortgage interest you are charged. Any cash savings you have in that account are ‘offset’ against the amount you owe. Lenders deduct this amount from your mortgage balance and only charge you interest on the remaining amount, usually each day.
For example, if you have a £200,000 mortgage but you have £20,000 in savings, you will only pay interest on £180,000 of the mortgage. The more savings you have, the less interest you’ll have to pay on your mortgage.
WHY IS IT IMPORTANT TO REDUCE YOUR MORTGAGE INTEREST?
Interest can add up a lot over the full term of your mortgage. For example, if you were to repay a £200,000 mortgage over 25 years, at an interest rate of 3%, you’d pay over £80,000 in interest.
Anything that reduces the amount of interest you must pay – like an offset mortgage – can help you save a significant amount of money over the long-term.
DO YOU STILL HAVE ACCESS TO YOUR SAVINGS WITH AN OFFSET MORTGAGE?
Yes. One of the main advantages of an offset mortgage is that you can still use your savings if you need to. The money is still yours and you aren’t obligated to use it to pay off your mortgage at any point.
You just need to remember that, if you withdraw a significant amount of your savings, your offset benefit will be reduced.
CAN YOU STILL ADD TO YOUR SAVINGS WITH AN OFFSET MORTGAGE?
Yes, you can still add to your savings, and this is often a sensible decision. The effect is the same as if you were to overpay on your mortgage, in that it will reduce the balance that you’re paying interest on.
However, the added benefit is that you can change your mind later and withdraw that money again if you need it. It isn’t usually possible to do this if you have overpaid your mortgage.
DO YOU STILL EARN INTEREST ON YOUR SAVINGS WITH AN OFFSET MORTGAGE?
No, you won’t earn interest on your savings. It’s important to bear this in mind, as over a long period (like a 25-year mortgage) inflation will reduce the buying power of your savings.
But the interest you save on your mortgage should add up more than the interest you would earn on your savings. You just need to compare the interest rates available to you for both mortgages and savings accounts to see if you’ll benefit.
WHY NOT USE YOUR SAVINGS AS A BIGGER DEPOSIT?
Using your savings to increase your deposit has the same effect as choosing an offset mortgage – it reduces the amount that you’re paying interest on.
The advantage of choosing an offset mortgage is that you can still access your savings later if you need to, whereas if you use them as a mortgage deposit, they are no longer accessible.
There are two advantages of using your savings as a bigger deposit. Firstly, you’ll have access to a wider range of mortgages, as offset mortgages are less common than other types. Secondly, you’ll be borrowing at a lower loan-to-value ratio (LTV). Because of these two factors, you might be able to find a mortgage with a lower interest rate than the offset mortgages available.
The best option for you depends on your circumstances, and you might want to check with a whole of market mortgage broker to help you compare your options.
WHAT ARE THE ADVANTAGES OF OFFSET MORTGAGES?
- You can pay lower monthly repayments
- Or, you can overpay and be mortgage-free sooner
- You will still have access to your savings if you need them
- You won’t pay any tax on your savings as they are not earning interest
- You’ll usually save more in mortgage interest than you lose in savings interest
WHAT ARE THE DISADVANTAGES OF OFFSET MORTGAGES?
- You won’t earn any interest on your savings
- Offset mortgages typically have a higher interest rate than other mortgage types
- There is a limited range of offset mortgages to choose from
- You can sometimes be better off using your savings to increase your mortgage deposit.
HOW DOES A FAMILY OFFSET MORTGAGE WORK?
A family offset mortgage is a relatively new option for offset mortgages.
Rather than using savings to offset against your own mortgage, you can link the money to your children’s mortgage. Helping to reduce the cost of their mortgage, without having to give away your cash savings.
