What is an offset mortgage? We give you the facts about these useful home loans
Posted 30 October 2015 by Keith Osborne
For over a decade offset mortgages have been one of the many options available to mortgage borrowers in the UK. Combining a mortgage with a savings or bank account, offset mortgages can be a tax-efficient and clever way to cut the cost of borrowing, yet The Independent reports that only around one in ten borrowers has such a mortgage.
So how does an offset mortgage work? And how much could you save by choosing one?
How an offset mortgage works
With a traditional mortgage, your lender calculates the mortgage interest you owe every month based on the total amount that you have borrowed.
However, an offset mortgage links your home loan to one or more savings/bank accounts. This means that when your lender calculates your mortgage interest the amount you pay is reduced by the amount you hold in the linked accounts.
For example, if your mortgage is £150,000 and you have savings of £15,000 in your linked account(s) you will only pay interest based on a balance of £135,000. As your savings go up and down the amount of the mortgage on which interest is charged will rise and fall.
The benefits of an offset mortgage
There are lots of compelling reasons to choose an offset mortgage. These include:
- By linking your savings your monthly payments will be reduced or, if you pay the same, you can repay your mortgage early
- You retain access to your savings if you need them
- It can be a tax-efficient way of borrowing. Higher and additional rate taxpayers will pay no tax on their savings interest and the equivalent return is the same as the mortgage rate
- Interest rates tend to be competitive and often comparable with traditional mortgage deals
When considering an offset mortgage you should remember that you won't earn any interest on your savings - instead you will simply pay less interest on your borrowing. In addition, if you don't have a lot of cash you won't make many savings and it may be better for you to choose a deal with a lower interest rate.
How much could I save?
The Independent cites the example of a borrower with a £100,000 mortgage and £7,500 in savings.
Assuming a mortgage rate of 3%, linking the £7,500 savings to your mortgage would reduce your total mortgage interest cost by £7,753 and reduce the term of your 25-year mortgage by a year and four months.
If you'd rather save regularly, you can also cut the cost of your mortgage. If you can save £200 into your linked account each month, you will save £17,159 in mortgage interest charges and cut three years off the length of a 25-year mortgage. In addition, you will end up with a savings balance of £52,800 when your mortgage is repaid.