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We are about to come to the end of our 1.4 per cent five-year fixed rate mortgage and are preparing for our monthly payments to jump.
In the past we had an offset mortgage and this helped us beat low savings rates but when we moved home we switched to a standard mortgage.
I am now wondering if it is worth going back to an offset mortgage.
We have a £300,000 mortgage on an £800,000 home, with 15 years left on the term.
We have about £30,000 in joint personal savings and my wife is a sole trader, so keeps between £20,000 and £40,000 in an account to pay herself when she needs money and cover her tax bills when they come.
When I have looked around, there don’t seem to be many offset mortgages on offer though and rates seem higher. Is it worth getting one?
Mortgage help: Our weekly Navigate the Mortgage Maze column sees broker David Hollingworth answering your questions
David Hollingworth replies: You won’t be alone in being one of the borrowers only just coming to the end of a fixed rate with a very low interest rate.
It can seem hard to believe that it was only December 2021 when base rate was first increased from its record low of 0.10 per cent to 0.25 per cent.
What followed was a series of rate increases taking base rate to 5.25 per cent in August 2023.
The sheer pace of change has already seen many borrowers come to the end of their deal and switch their deal in a mortgage market that looks very different to the ultra-low deals that were commonplace.
On the more positive side fixed rates have improved from the peak levels reached during periods of significant volatility.
The outlook has eased but although some fixed rates have just edged back below 4 per cent your payments will still rise substantially.
A £300,000 mortgage over 15 years at say 4.25 per cent will cost £2,257 a month, whereas the same mortgage at 1.40 per cent would be more than £400 a month lower at £1,849.
It’s clearly important that you take advice and conduct a thorough search of the market for the best deal to help mitigate that rise.
That search should include revisiting whether an offset mortgage could be a useful tool to help you manage and reduce the overall cost of your mortgage.
How does an offset mortgage work?
Offset mortgages link a separate savings account to the mortgage. Instead of paying interest on the savings, the lender only charges interest on the difference between the mortgage and savings balances.
For example, a borrower with a £100,000 mortgage and £20,000 in savings would only be charged interest on £80,000.
Many offset deals will allow a choice of how to apply the benefit of the offset account.
By maintaining the normal mortgage payment there will be an overpayment made that will help gradually erode the mortgage balance and total interest payable.
That could ultimately see the mortgage repaid early and save thousands in interest over the life of the mortgage.
Alternatively, the impact of the savings could reduce the required monthly mortgage payment. The mortgage won’t be paid back early but it will reduce the monthly cost.
Looking at it from the savings side, the effective return on the cash is at the mortgage rate and there’s no income tax liability, as no interest is earned.
If there would otherwise be tax to pay on savings, then you’d need an even higher savings rate to get the same effective rate.
One of the big practical benefits of offset compared to overpaying is that the cash remains easily accessible.
This will be important for your wife who clearly needs to be able to have instant access to the funds.
Instead of paying interest on the savings, the lender only charges interest on the difference between the mortgage and savings balances
What’s the downside?
You’re correct that there’s fewer offset mortgage options on the market these days.
When interest rates were so low for so long, offset found it hard to grow and many lenders simply don’t have an offset option.
Although the concept of offset could help lots of customer profiles there is a balancing act, as the mortgage rates on offset will typically be higher than on a standard mortgage.
Therefore, the value of the offset will depend on the level of savings that will be held in the offset account and whether that proportion will make up for any premium in rate that you need to pay.
The lowest offset five-year fixed rate from Yorkshire BS is 4.5 per cent at the time of writing, compared to a standard rate that would be a touch over 4 per cent without a big fee.
Your cash savings could equate to more than 20 per cent of the mortgage amount, so that could be a margin worth paying, especially if savings interest would be subject to higher rate tax.
Be realistic about how big a proportion of the mortgage you are likely to typically maintain in savings and how much use you will be able to make of the flexible offset functionality.
That functionality can extend from a simple savings account to linked current and savings accounts.
Although market choice may be more limited there’s still several lenders supporting offset including Yorkshire BS, Coventry BS, Clydesdale Bank, Family BS and Barclays.
GET YOUR MORTGAGE QUESTION ANSWERED
David Hollingworth is This is Money’s mortgage expert and a broker at L&C Mortgages – one of Britain’s leading specialists.
He is ready to answer your home loan questions, whether you are buying your first home, trying to remortgage amid the rates chaos or looking to plan further ahead.
If you would like to ask him a question about mortgages, email: editor@thisismoney.co.uk with the subject line: Mortgage help
Please include as many details as possible in your question in order for him to respond in-depth.
David will do his best to reply to your message in a forthcoming column, but he won’t be able to answer everyone or correspond privately with readers. Nothing in his replies constitutes regulated financial advice. Published questions are sometimes edited for brevity or other reasons.
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