We show you how combining your mortgage, savings and current account can cut your interest bill by thousands of pounds.
There's been a huge surge in the number of homeowners and buyers taking out offset mortgages in recent years. Indeed the Council of Mortgage Lenders (CML) reports that 170,000 offset mortgages, worth close to £30bn, were taken out in 2006, up 49% from 2005.
With an offset mortgage, you can use your savings (and even the credit balance in your current account) to counterbalance some of your mortgage debt. For example, if you have a £150,000 home loan and £20,000 in an offset savings account, then you pay interest only on your net debt of £130,000.
Although, strictly speaking, you don't earn any interest on your offset savings, in actual fact this plays to your advantage. Instead of earning savings interest and paying tax on it, in effect, you 'earn' tax-free interest on your offset savings at your mortgage interest rate. Given that the interest rates charged by mortgage lenders are usually higher than those paid by savings accounts, switching to an offset or current-account mortgage (CAM) can leave you quids in.
Another benefit of offset mortgages and CAMs is their flexibility: most allow you to overpay, underpay and take payment holidays to suit your needs. Clearly, the benefits of offsetting are catching on with the British public, because sales are booming. One key reason why offsetting is becoming increasingly popular is that interest rates on offset mortgages are becoming more keenly priced.
A few years ago, you could expect to pay a premium -- in the form of a higher yearly interest rate -- of up to 1.5% in order to enjoy the flexibility and savings that offsetting provides. However, fierce competition among mortgage lenders has brought down this gap to the point when offsetting can be had at almost no extra cost. What's more, with fixed-rate deals becoming more expensive (thanks to four rate rises by the Bank of England), variable-rate offset deals are looking increasingly attractive.
So, although offset mortgages have been around since 1994 (when they were introduced into the UK from Australia), only now are they really catching on in a big way. Of course, by paying less interest on your home loan, you can accelerate the repayment of your mortgage. Indeed, by throwing monthly overpayments and the occasional lump sum at your home loan, you can reduce your interest bill by thousands of pounds and knock years off the life of your mortgage.
In fact, according to a survey from Yorkshire Bank, switching to offset and current-account mortgages could save British homeowners a total of £29 billion. Yorkshire Bank reckons that almost three in ten homeowners (29%) -- approximately four million people -- have their mortgage, savings and current account all with the same bank or building society. By switching to offset deals, these people could save a fortune in interest and income tax: a whopping £11,000 per household, the bank estimates.
Here are some potential savings to be had by switching from a standard 25-year repayment mortgage, with 15½ years remaining, to an offset account:
Mortgage | Savings and current | Saving from | Reduction in |
|---|---|---|---|
84,000 | 7,000 | 11,660 | 1.3 |
100,000 | 15,000 | 22,950 | 2.1 |
250,000 | 30,000 | 47,670 | 1.7 |
Source: Yorkshire Bank; the two figures in italics are the average mortgage and savings balance in the UK, according to YB.
If you'd like to find out how much offsetting could save you, then try the Fool's very own offset mortgage calculator. You may be surprised at how much your savings and current account could save you over the coming years!
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