Save thousands with an offset mortgage

Offset mortgages allow you to pay off your mortgage earlier and save thousands in interest...

Do you want to pay off your mortgage quicker than planned, while paying less interest overall? If so, an offset mortgage could be for you.

Offset mortgages have been around for quite a while and are a great way to make your savings work for you – something that’s nearly impossible in a climate of rock bottom savings rates.

The principle

Essentially offset mortgages combine a mortgage and savings. They allow borrowers to “offset” their savings against their mortgage and only pay interest on the remainder.

For example, if you had a £200,000 mortgage and £20,000 in savings you could use your savings to offset your mortgage and as a result you will only be charged interest on the net balance of £180,000.

Some offset mortgages go further than this and allow borrowers to offset current account balances too.

Offset mortgages work on the principle that we tend to get less interest on our savings and current account balances than we pay on our debts – something very true at the moment when savings rates are so low.

The benefits

There are various ways you can make an offset mortgage work for you. Offset mortgages allow you to make regular or one-off over-payments.

So if you use money you would normally stash in a savings account to make regular overpayments you will pay off the mortgage quicker and pay less interest overall.

Once you’ve made overpayments you’ll be able to make underpayments in the future, although you’ll need to make sure that you’re still on plan to repay the mortgage at the end of the term.

The sums

A couple of examples demonstrate how effective offset mortgages can be:

A customer with a £200,000 offset mortgage at 3.5% and £50,000 in a linked savings account would only pay interest on the remaining £150,000. This would save them £49,837 in interest over the lifespan of the mortgage and knock more than eight years off the payment term.

But you don’t need a massive amount of savings to make an offset mortgage work for you; just small overpayments can make a big difference too.

For example, if you had a £200,000 mortgage at 3.5% and overpaid by £50 a month you would save £8,201 in interest costs over the life of the loan and knock nearly two years off the term. Up the monthly overpayment to £100 and you’d knock £15,123 off your interest bill and pay off the mortgage three-and-a-half years early.

Why offsets are a good option now

While opinions are split on when the base rate will rise from its all-time low, the fact remains that a rock bottom base rate means savings rates are also at an all-time low.

This, and rising inflation, means it’s virtually impossible for savers to see a real return on their money, especially once tax is taken into account too.

In this situation an offset mortgage can be a good way to ensure that your money works for you with none of the risk associated with more complex investments that promise you a decent return on your cash.

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The best part is that once you’ve made some overpayments you can normally take the money back or make underpayments in the future, so not only are your savings working well for you but they’re not tied up either and you can get to your money if you really need to.

Any downsides?

Traditionally offset mortgages have had higher rates than the best mortgage deals around, but the gap is pretty narrow these days. The main pitfall of an offset mortgage is that you pay a slightly higher rate than necessary but then fail to take advantage of the features of an offset. But a bit of discipline and you’ll be fine.

The best deals

As with any mortgage product it’s a good idea to shop around and compare rates before making a decision about an offset mortgage. A mortgage broker will be able to help you do the sums to work out how an offset can work for you. You can pick the brains of our fee-free mortgage team via email, over the phone or instant messenger. Just head over to our mortgage centre.

Woolwich/Barclays is offering a lifetime tracker at 2.29% above the base rate for life, giving an initial rate of 2.79%. It has an arrangement fee of £1,499.

Accord Mortgages is offering a two-year tracker offset at 1.99% above the base rate giving an initial pay rate of 2.49%. However, it reverts to a pretty hefty 5.99% for the term once the two-year period is up and has a £1,900 arrangement fee.

Alternatively Scottish Widows has an offset deal fixed at 3.09% for two years with a £999 arrangement fee. After that it reverts to 3.99% for the rest of the term.

More: Get a marvellous mortgage | Working out what a good mortgage rate is | Fix your mortgage at 4% for five years

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At lovemoney.com, you can research all the best deals yourself using our online mortgage service, or speak directly to a whole-of-market, fee-free lovemoney.com broker. Call freephone 0800 804 8045 or email mortgages@lovemoney.com for more help.

This article aims to give information, not advice. Always do your own research and/or seek out advice from an FSA-regulated broker (such as one of our brokers here at lovemoney.com), before acting on anything contained in this article.

Finally, we tend to only give the initial rate of a deal in our articles, but any deal which lasts for a shorter period than your mortgage term may revert to the lender's standard variable rate or a tracker rate when the deal ends. Before you take out a deal, you should always try to find out from your lender what its standard variable rate is and how it will be determined in the future. Make sure you take all this information into account when comparing different deals.

Your home or property may be repossessed if you do not keep up repayments on your mortgage.