An offset mortgage is where you have your mortgage and savings with the same lender in ‘linked accounts’. The amount of savings you have is subtracted from the mortgage that you owe and you only pay interest on the difference. For example, if you have a mortgage of £200,000 and £20,000 in savings, you only pay interest on £180,000.
How does an offset mortgage work?
While your savings reduce the amount of interest you pay, it’s important to remember that they don’t actually repay the mortgage, they just sit alongside it. If you increase your savings, you have the choice of either reducing your monthly mortgage payments or keeping your monthly payment the same but reducing the mortgage term. The more money you offset in your savings account, the more money you save in interest. In contrast, if you make a withdrawal from your savings, that money is no longer offsetting your mortgage so your repayments will increase.
You don’t earn any interest on your savings in this linked account; however, one of the biggest advantages of an offset mortgage is that they are incredibly flexible. You have easy access to your savings should you need them so they are great if you are planning a home renovation or saving for a new car. “Offsetting is a little like making overpayments to your mortgage except, unlike overpayments, it’s very easy to re-draw the offset funds again should they be required,” explains Phil Leivesley, senior mortgage adviser at MB Associates. Just like ordinary mortgages, you can opt for a fixed, tracker or variable rate, and decide between repayment and interest-only products.
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How to set up an offset mortgage
While there is less choice than in the regular mortgage market, many mainstream banks and building societies offer offset mortgages with competitive interest rates. You can either contact the provider directly or use a reputable mortgage broker to find the best deal. Use an offset mortgage calculator to compare different rates and how changing your savings amount equates to what you pay each month or the term of the mortgage. The process of setting up an offset mortgage should be similar to that of a normal mortgage, with the exception that you need to make sure your savings are also transferred into the linked account. You should then be able to manage your money online by logging into your account. “Make sure that you are setup so you can easily transfer funds back and forth as you need. If it seems difficult to make a transfer into your offset account, you’ll be less likely to do it,” Leivesley warns.
Is an offset mortgage right for me?
First, there’s no point getting an offset mortgage unless you have some form of savings. As a consequence, they have traditionally been popular with those who have to save money for a particular reason, eg the self-employed who put aside money for tax and VAT, landlords with rent coming in and those who get bonuses or have uneven incomes. Higher and additional-rate taxpayers have also taken them out as they are a tax-efficient way of making the most of your savings. However, this is changing, and they are becoming increasingly mainstream.
“The common misconception is that offset mortgages are only for those with significant savings,” says Phil Leivesley. “But the reality is that anyone with reasonable savings, or with a surplus between their income and outgoings each month will benefit from offsetting.” This is especially the case at the moment when interest rates are so low.
Offset mortgages are also a great way for parents to get their children on the property ladder, and offer a simpler alternative to becoming a guarantor. You are able to gift your child funds for their offset mortgage and, as long as they don’t default, you will have access to them at a later date.
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While there are many pros to getting an offset mortgage, there are some cons too. The main one is that they have slightly higher rates of interest than traditional mortgages, which can out-weigh the benefits of offsetting. As your savings don’t earn interest, they will also lose their spending power with inflation and decrease over time. If you don’t plan to access your savings, it might make more sense to take out an ordinary mortgage and put your savings in a long-term, high-interest bond.
It’s also worth being aware that there are a limited number of offset mortgages and they might come with restrictions, for example they can’t be used on properties with annexes. “A smaller market of lenders means that it might be more difficult to find a lender to lend if there is some specific complexity, such as non-standard property types,” adds Phil Leivesley.
In addition, there may also be rules regarding your savings and some lenders require you to keep a minimum balance in your linked savings account.
Whether an offset mortgage is right for you will depend on your own specific circumstances but, if you’re looking for flexibility when it comes to your mortgage and savings, they offer a smart option.
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