Many of us are so accustomed to keeping borrowing and saving entirely separate that we think it always needs to be that way.
It doesn’t have to be that way. Instead, you might think of borrowing and saving as the two sides of broadly the same coin when it comes to your domestic finances. At the very least, for example, the more you are saving, the less you need to borrow.
How do offset mortgages work?
That is very much the principle behind the offset mortgageA mortgage where the borrower's savings are offset against t.... Offset mortgages are linked to your savings account so that you pay less on the amount you are borrowing – the more you save, the less you end up paying for your mortgage.
That is the result of linking your savings or current account to the mortgage you have with the same lender. The amount in your savings or current account is deducted from the outstanding balance on your mortgage, and you only pay interest on the net balance rather than the total amount of your mortgage.
For example, if you have an outstanding mortgage balance of, say, £150,000 but also have £25,000 in a linked savings or current account with the same lender, you only pay interest on the net balance of £125,000 (rather than the full £150,000).
That is why this product is sometimes known as mortgage offset, an offset account, an offset loan or, a linked account.
Can you access your savings with an offset mortgage?
The savings account linked to your mortgage account typically remains as flexible as any other instant-access savings account – you may simply withdraw your cash as and when you need it. The amount you withdraw is no longer set against your mortgage balance, of course, so your monthly payment is likely to increase.
To continue our example: your outstanding mortgage balance is still £150,000. But now you withdraw £5,000 from your £25,000 savings account. Where you were once paying interest on a net mortgage balance of £125,000, you now have to pay interest on the new net balance of £130,000.
A building society or a lender may also require you to keep a minimum savings balance to maintain your offset mortgage. Indeed, if it has been some time since you had much of a positive balance in your linked savings or current accounts, it may be worth thinking about switching to a different type of mortgage, suggests the Consumer Association’s Which? magazine.
What are the advantages of offset mortgages?
The more you add to your savings, the less you are paying in an interest charge on your home loan – whatever the prevailing rate of interest.
The key point to keep in mind is that once linked to an offset mortgage, your savings are not earning interest but are simply helping to reduce your outstanding mortgage balance. It follows, therefore, that you are likely to gain most from an offset mortgage when interest rates on your savings are low – you are potentially better off reducing the cost of your mortgage rather than relying upon interest earned on your savings.
Since you are not earning interest on your savings, there is no tax to pay on any such income.
When weighing up the advantages of an offset mortgage, you need to consider the relative rates on interest on borrowings and savings, you alternative use to which you might use or invest your savings and, any costs involved in setting up your offset mortgage accounts.
There are several online calculators available to help you do those sums – including one provided by the Money Saving Expert, for example.
How else can I benefit from an offset mortgage?
Typically, an offset mortgage offers you the choice between two different benefits:
- save money in the short term by cutting your monthly mortgage payment costs by netting off the outstanding mortgage balance against your savings; or
- continue to make the normal monthly repayments based on the full mortgage balance – effectively overpaying on the offset balance – and, in that way, reducing the remaining length of your mortgage.
What are the disadvantages of offset savings mortgages?
When comparing any financial product, there are usually both pros and cons – the same is true for offset mortgages, where potential disadvantages include the following:
- your lender may charge a higher rate of interest on an offset mortgage than a regular repayment mortgage (so, at least in part undoing some of the advantages of the offset);
- you may have a smaller choice of potential lenders from which to choose your mortgage;
- you will not be earning interest on your savings – which will be greater when interest rates are higher; and
- you might be making better use of your savings – by paying off your mortgage earlier, for example.
The relative impact of these disadvantages will vary from case to case, of course, and you might want to seek specialist advice on the relative merits of managing your borrowing and savings to full advantage.
Is an offset mortgage suitable for you?
As we have seen, there are both pros and cons – and an independent financial adviser may be best placed to help you weigh up one against the other.
When interest rates are low, for example, we have also seen how an offset mortgage may work in your favour. An offset mortgage might also benefit a sole trader or self-employed contractor who can use the linked savings account to reduce the monthly cost of a mortgage yet still have access to those savings when it is time to pay the annual income tax bill.
Can I get a buy to let offset mortgage?
Offset mortgages exist on other types of mortgage – such as an offset remortgageRefinancing an existing mortgage with a new mortgage. and even offset buy to let mortgages – but they are few and far between. Seeking the advice of a mortgage broker will help you identify what products are available.
Are you thinking of getting an offset mortgage?
There is a compelling logic in linking your mortgage to a savings or current account. If the latter is used to offset – and thereby reduce – your outstanding mortgage debt, you pay less each month in a mortgage interest charge
Logic also dictates that an offset mortgage is likely to make greater sense when interest rates are low, and you would, in any case, earn little from any savings account – far better to use those savings to reduce your mortgage debt.
Nevertheless, the sums involved in weighing up the benefits and disadvantages may be quite complicated. So, you might want to consult a mortgage broker to find out whether an offset mortgage is the most suitable product for you or whether you may be better off with a standard mortgage deal.