We identify an offset mortgage that is worth buying in today's low interest, high inflation environment.
There are 249 offset mortgages available, according to Defaqto, the financial research specialists, which believes these loans “offer an effective savings vehicle in low interest, high inflation environment”.
Let's see then if any existing offset deals can compete with more typical mortgage deals.
How offset mortgages work
Before we do that, here's a reminder of what these mortgages do.
An offset mortgage combines your savings and mortgage together. You earn no interest on your savings, but while you have the savings you reduce the interest you pay on the mortgage.
Let's say you have a £100,000 mortgage and £10,000 of savings. The savings reduce the debt interest you pay as if you had just a £90,000 mortgage. You can access those savings at any time.
Usually, you don't reduce the monthly repayment on your mortgage, even though you're offsetting savings and paying less interest. In this way you'll pay down the debt faster, which means you'll pay less interest in the future – even after you have spent your savings.
If you prefer, many offset mortgages allow you to reduce the monthly repayments as if you had a smaller mortgage. The downside is you'll save less money and you won't clear your mortgage as fast, so this is often more a measure for overstretched customers.
You can get fixed, tracker and discount offset mortgage deals.
What makes an offset better?
The factors that affect whether an offset mortgage is better include the fees, debt interest, total repayments, the amortised (repaid) debt, and the after-tax savings rate. If you have just part of your savings in cash ISAs it gets more complicated. Some offset mortgages also allow you to offset your current-account balance, which can throw another layer of complexity into an already brain-melting comparison, particularly if you have a high average balance.
If you think that comparing offsets to regular mortgages is merely a matter of comparing the mortgage interest rate to savings rates (a mistake that I think many financial commentators, banks and journalists make) have a read of The forgotten costs of an offset mortgage.
The best offset deals available
It's not easy to compare offset mortgages as there are just a few poor-quality resources to do so. I looked at them though, and also at the websites of as many lenders as I had time for, but I couldn't find any better offset deals than those Defaqto recently identified.
Since offset mortgages combine a mortgage and savings, I shall compare two top offset deals with similar non-offset mortgage deals used in conjunction with the best savings account.
Five-year fixed deals
Yorkshire Building Society does it again. I compared its five-year fixed-rate offset mortgage, which is the best of its kind, with the best five-year fixed-rate non-offset deal available.
Guess who has the best non-offset deal? Yorkshire Building Society. This lender currently has a lot of fantastic mortgages.
Both the offset and non-offset fixes are for people wanting mortgages at 75% of the total value of their property (so-called 75% loan-to-value or 75% LTV). Both come with a booking fee of £195 and an arrangement fee of £300, the latter of which is added to the mortgage. The offset mortgage has a fixed interest rate of 3.59% APR and the non-offset is slightly cheaper at 3.49%.
Savings rates are currently lower, especially for higher-rate taxpayers. The best easy-access savings account is ING Direct's account paying 3.1% before tax. (There are other easy-access accounts paying slightly more, but ING's is the best because of its guarantees and lack of catches, and because I have excluded accounts that rely on you having other products.)
You could get higher savings rates if you tie your money in to a longer-term savings account, but that's an unfair comparison, because with offset mortgages you can access your savings at any time.
Thanks to savings rates being what they are, after the five-year mortgages are up, the offset mortgage wins hands down. If you have a £100,000 mortgage lasting 20 years and £10,000, £20,000 or £50,000 of savings, you'll be better off with the offset.
Basic-rate taxpayers with just £10,000 in savings are likely to be better off by more than £1,000. But the more tax you pay and the higher your savings the more you benefit, so higher-rate taxpayers with £50,000 will be better off by nearly £14,000.
However, if you chose to reduce your monthly repayments rather than keep them the same, you'd be between £2,000 and £9,000 worse off, depending on your tax status and savings.
Offsets aren't always the best choice
It may be you don't want to fix for five years with either of those mortgages, and you'd rather get a cheap tracker. I looked at the top two-year offset tracker from Accord Mortgages and compared it to Santander's table-topping two-year, non-offset tracker.
The Accord offset is for 75% LTV, charging just 2.19% APR, a £1,900 arrangement fee that is added to the mortgage and a £95 booking fee. Santander's non-offset is for 70% LTV, charging 2.24% APR and with an arrangement fee of £1,500, and £250 cashback so long as you don't switch inside two years.
Accord's offset has a slightly lower interest rate. Santander's non-offset has a significantly lower fee, considering the short length of the deal, plus cashback. Both have very low mortgage rates, making savings more attractive than in my comparison between the two five-year fixed deals.
Finally, Santander amortises (pays down the debt) more slowly than Accord. But it's fast enough to tip the balance. After two years, all things considered, Santander's non-offset mortgage is better by between £1,000 and £3,000 for both basic-rate and higher-rate taxpayers.
It demonstrates that low mortgage rates in a high-inflation environment don't always make offsets better.
Offset and save
You might be wondering what it would be like to take out one of the above offset mortgages, opt to reduce the mortgage payments, and save the difference in ING's savings account? The answer is that you would slot in between, coming in second place.
Looking to the future
My sums are based on a snapshot in time. What if savings and mortgage rates rise? What if they rise at different speeds? Will the winners I have identified still be winners then?
Just like the old TV game Knightmare, these are questions, alas, that will have to wait for another time, for I have run out of space, but please feel free to discuss that theme in the comments box below.
More: compare mortgages through lovemoney.com | The forgotten cost of an offset mortgage | Buy a property without a deposit