If you’re fed up with low savings rates, or you want to pay your mortgage off quicker, then an offset mortgage could be the right answer for you.
By linking your savings to your mortgage, you could reduce the interest that you pay and clear your mortgage faster than you expected. Keep reading for everything you need to know about offset mortgages.
What is an offset mortgage?
An offset mortgage links your savings to your mortgage debt. Any money in your savings pot is used to reduce the interest charged on your mortgage – hence ‘offsetting’ your savings against your mortgage balance.
Instead of earning interest on your cash, your savings effectively reduce your mortgage balance. This means you pay less interest on your borrowing.
For example, if you have a £150,000 mortgage and £20,000 in your linked savings account, you will only pay mortgage interest on a balance of £130,000. You won’t receive any interest on your £20,000 savings.
When you choose an offset mortgage both your savings and your mortgage are with the same bank or building society.
You can retain access to your savings whenever you need them. And, while they are linked to your mortgage, they can help you reduce the interest you pay and clear your mortgage sooner.
Offset mortgages can help you to pay off your mortgage sooner
With an offset mortgage, you link your savings to your mortgage account.
Your savings don’t repay any of your mortgage, but sit alongside it. Unlike a mortgage overpayment, this means that you can access the funds whenever you like.
By reducing the interest you pay on your mortgage, you could save hundreds of pounds every year. When compared to the low rates currently available on savings products, this can be an effective way to use your spare cash.
When you ‘offset’ your savings you can choose to benefit in one of two ways:
- Lower your repayments – your mortgage term remains the same, but you pay less every month.
- Pay your mortgage off sooner – keep your repayments the same and pay back your mortgage more quickly.
Choosing an offset mortgage can also be a tax-efficient way of using your savings. As you don’t earn any interest, you won’t pay any income tax. This makes offset mortgages a popular choice for higher or additional rate taxpayers.
An offset mortgage could save you thousands
The Independent uses an 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.
Offset mortgages can help you to support a family member onto the property ladder
Some lenders offer a ‘family offset’ mortgage product designed to allow parents to use their savings to help their child buy a property.
By offsetting your savings against your child’s mortgage, you are essentially helping them with their deposit. You retain control and ownership of your savings while helping your child to get into the property ladder.
Once your child is ready to take the mortgage on by themselves, you can take back your savings.
Think carefully before taking an offset mortgage
While offset mortgages offer a range of benefits, there are some factors that you should consider:
- While there are some competitive offset mortgage rates in the market (see below), you will generally benefit from a lower interest rate on a traditional mortgage product. Similarly, you may also find more competitive interest rates on traditional savings products.
- An offset mortgage means you must hold both your mortgage and your savings with the same provider.
- You don’t earn any credit interest on your savings. By offsetting them against your mortgage you reduce the amount of interest you pay on the borrowing.
Cost of offset mortgages fell sharply in 2017
There are lots of compelling reasons to choose an offset mortgage, particularly if you have savings available.
Research from financial analysts Moneyfacts in 2017 also found that the cost of offset deals has been falling sharply over the last couple of years.
In June 2017, data revealed that the average fixed offset mortgage rate was the lowest on record. However, while the cost of an offset deal might be at a record low, the choice of products remained limited. In June 2017 there were just 232 deals currently available, out of more than 4,000 mortgage products in total.
“Savers have been hit from all angles recently, and rising inflation is just a further blow,” says Charlotte Nelson, finance expert at Moneyfacts. “With inflation eroding savers' funds it is little wonder they are looking elsewhere to put their cash to better use, and using an offset mortgage could be just that.
“With savings rates low it makes sense for those with a mortgage to utilise their cash savings within an offset facility to pay off substantial sums on their mortgage and become mortgage-free quicker than planned, and unlike with overpayments, borrowers can access the cash whenever it is needed.
“Offset mortgage rates do tend to be slightly higher than standard mortgages on the market, but with rates reaching all-time lows, there has never been a better time for savvy borrowers to grab themselves an offset deal,” Charlotte adds.