Many clients are now asking me the question “can I make overpayments on my mortgage?” This comes to no surprise as interest rates are usually so low at the moment, when taking out a new mortgage the monthly repayments are looking considerably smaller than one would have expected perhaps a few years ago. The answer is yes, most mortgages now allow you to repay up to 10% of your annual balance each year, so on a typical £100,000 mortgage you are looking at being able to pay back an extra £833 per month on top of your monthly repayment, which I imagine is more than enough for most people.
So why is this something we should be considering more now than ever? The downside to lower interest rates is that we are not reaping the benefits as much now from depositing our money into a savings account. With most easy access accounts giving an interest rate of less than 1% it’s fairly unlikely saving the money is going to work out better than knocking it off your mortgage. Using our previous example if you were to save the £10,000 per year you would receive £100 back in interest, however if you knock that off your mortgage which is say 2.04% you save yourself £204 in interest that you would have paid on your mortgage.
If you are coming out of your tie in period with your current mortgage and looking to remortgage soon, you could be using overpayment to your advantage. As the loan to value ratio of your mortgage decreases the interest rates get better, however the lenders do this in specific increments of 60%, 65%, 70%, 75%, 80%, 85%, 90% and 95%. Therefore if you are smack bang in the middle of these come remortgage time you are still going to be lumbered with a rate based on the higher of the two, for example if you are at 87.5% you will be stuck with a 90% deal. Whereas if you are clever about it you could overpay and target the 85% loan to value deal for when you come to remortgage.
As well as saving you money by paying less interest overpaying on your mortgage can help you to reduce the term of your mortgage dramatically. Some people often ask should I go for a shorter term or overpay? I would recommend going for a longer term suited to your retirement date so that the payments are definitely affordable, but then overpay when you can and reduce the term this way if you are disciplined enough to do so.
Although over paying on your mortgage is a good idea, it is only ideal for those who have the disposable income readily available. Paying back other debts such as loans and credit cards should always take first priority before thinking of saving or overpaying on your mortgage. Another crucial part of everyone’s financial plan should involve a rainy day fund of around 3-6 times your regular monthly outgoings for those unforeseen circumstances.
Sammy McCann BSc (Hons), Cert CII (MP)
7th November 2016