23 Jan 2017
Author: Stephen Breen
If you’ve got money in a current or savings account offering a paltry rates of interest, you can put it to better use by offsetting it against your mortgage.
With the best bank and savings accounts offering little more than 1% interest, it could make sense to move your money and make it work harder for you.
What is an offset mortgage?
If your savings are earning very little interest, they could perform better for you with an offset mortgage. An offset mortgage links your savings to your mortgage balance. With an offset mortgage, if your outstanding mortgage balance is £100,000 and you have savings of £20,000, you would only pay interest on £80,000. This type of mortgage reduces your mortgage payments and gives you the opportunity of paying off your mortgage sooner. Your savings are still available to you should you need them.
Some providers also allow you to link your mortgage to your current account. The balance of your current account offsets your mortgage debt, further lowering your interest payments. Again, you still have full access to your money when you need it.
Family offset mortgages
If you don’t have much in the way of savings, a family member can help reduce your mortgage payments by using their savings to offset what you owe. Their savings are placed in a special account and linked to your mortgage, reducing your payments. However, these are aimed at first time buyers and typically they require that the savings are used as security for a number of years. The family member gets their savings back, with interest, if the borrowers do not default.
Are there any negatives?
There are not many offset mortgages on the market, and the rates can be higher. The majority of lenders charge a premium of around 0.3% for this type of mortgage. Few are available on a fixed rate basis. Experts advise that you should only take this sort of mortgage if you actually have savings to offset against the outstanding loan – otherwise you are likely to be paying a higher mortgage rate than you need to.
The Money Saving Expert team suggest that those with a small amount of savings in comparison with their mortgage balance will probably not be better off with this type of mortgage. This is because the mortgage rates be slightly higher than for other types of mortgage, and you will need to have sufficient savings to account for this.
Who will benefit from an offset mortgage?
If you have a reasonable amount of savings in comparison with your mortgage balance and they are not earning a great deal of interest, an offset mortgage will likely be a good option for you.
This type of deal may also be of interest if you’d like to overpay, but don’t want to lose access to your savings.
Higher rate tax payers with a reasonable amount of savings are even more likely to benefit from this type of deal. Basic rate taxpayers do not pay tax on the first £1,000 of savings interest but the allowance for 40% tax payers is a reduced £500/year and 45% taxpayers have no allowance at all. The small amount of interest that those in the 45% bracket earn is therefore reduced even further by tax.
With an offset mortgage, no interest is actually received – so in effect, higher rate tax payers can earn a rate of return equivalent to their mortgage rate. In fact, since the money they would use to pay their mortgage payment would have already been taxed, the reduction they receive as a result of offsetting their savings needs to be grossed up at the relevant marginal tax rate to get a true understanding of the benefit to them. For higher rate tax payers, an offset mortgage can be a very tax efficient arrangement.
Are offset mortgages new?
Offset mortgages first appeared in 2000 so they are nothing new – but lenders don’t advertise them as heavily as other types of mortgage. Many of the big lenders – including Nationwide, Halifax and Virgin – do not have an offset mortgage product. The account management of these products also used to be more complex which could be off-putting, but this has improved over time and customers can now access their accounts and perform transactions online.
Could an offset mortgage be right for you?