In today's high inflation - low savings rate world getting the most from your cash on deposit is becoming increasingly difficult.
However, one option open to mortgage borrowers with savings is an offset mortgage. Below I explain the pros and cons of an offset mortgage, the current deals out there and whether you would benefit from one.
What is an offset mortgage?
As stated in my Guide to Mortgages under an offset mortgage the amount borrowed is linked to a current/savings account with the lender. The amount held in the current account is used to 'offset' the mortgage debt when calculating the interest charged and could help you pay back your mortgage quicker. The borrower needs to be aware that interest will not be paid on the balance held in the current/savings account.
What are the advantages of an offset mortgage?
- It can help pay off your mortgage quicker.
- You pay less interest on your mortgage due to the offset.
- You can save income tax on your mortgage interest payments (as savings interest is taxed but the offset happens gross).
- Offset mortgage are flexible and often let you pay off lump sums without penalty which can be particularly useful for the self employed who often have less predictable earnings.
- Putting your cash into an offset facility means you can still withdraw it when you need it, which is often not the case if you were to simply overpay a standard mortgage.
What are the disadvantages of an offset mortgage?
- They often have higher interest rates than comparable base rate trackers, fixed rate and other mortgages.
- Most offset mortgage are variable rate – which puts you at the mercy of interest rate rises
- You need a certain level of savings in the bank to make them worthwhile. Otherwise little will be gained from the offset and you will simply end up paying a higher rate of interest.
- They require discipline as not only will you have to regular switch providers to secure the most competitive rate out there but you will also need to keep an eye on whether you are in line to pay-off your mortgage by the date you planned to.
So why is everyone talking about offset mortgages now?
As stated above, historically offset mortgages have had higher interest rates than alternative non-offset mortgages. However, this gap has since narrowed meaning there are some attractive rates available.
Given the often huge disparity between savings interest rates and mortgage rates, particularly while Bank of England interest rates are so low, under an offset arrangement savings are effectively earning a rate of interest equal to that which is applied to your mortgage i.e. much higher than is normally available to savers!
How good are offset rates at the moment?
According to Defaqto, a financial research company, there are currently 249 offset mortgages available. The average rate for a 2 year fixed rate offset mortgage at 75% Loan-to-Value (LTV) is 3.24% while the average rate for a lifetime base rate tracker offset mortgage at 75% LTV is 3.19%.
Will I benefit from having an offset mortgage?
If you have savings and a sizeable amount of equity in your home then you could well benefit from an offset mortgage, so speak to a mortgage adviser.
But as a guide the following people are likely to benefit from an offset mortgage:
- Taxpayers (especially higher rate taxpayers)
- Savers with a reasonable level of savings
- The self employed
- Those with sizeable annual bonuses or for whom bonuses represent a substantial amount of their income
- Those paying school or university fees
- Buy-to-let landlords