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Make the most of your savings with an offset mortgage

With savings accounts struggling to keep pace with inflation, an offset mortgage may be a better option, says Lorna Bourke.

 
Make the most of your savings with an offset mortgage

With savings accounts struggling to keep pace with inflation, an offset mortgage may be a better option, says Lorna Bourke.

The offset advantage

With inflation now running at 5.2% as measured by the Retail Prices Index (RPI), there are virtually no savings accounts that will keep pace with rising prices. However, there is a much better use for your savings if you are a homebuyer – an offset mortgage. This allows you to pay mortgage interest out of untaxed deposit income. For example, if you have a £200,000 mortgage with a £50,000 offset savings account running alongside, you will pay interest on only £150,000 of borrowing.

Offset also has the advantage in these uncertain times that if your savings are more than £85,000 – the maximum covered for compensation under the Financial Services Compensation Scheme – then any excess over £85,000 goes to pay off your mortgage and isn’t lost if the lender goes bust.

Advantage of flexibility

The beauty of offset is that you can either reduce your mortgage debt and shorten the term of the loan, or cut monthly outgoings if need be. And you can get at your savings at any time without penalty, which is very useful when lenders are refusing existing customers the facility to move loans to another property.

‘There is a move by borrowers to reduce their debt without losing access to cash,’ says David Hollingworth of fee-free mortgage broker London & Country. ‘You don’t want to pay off your mortgage with savings because you don’t know whether you will be able to borrow it back.’ 

Offset best buys

For those who want certainty, Hollingworth recommends a five-year fixed-rate offset mortgage from Yorkshire Building Society at 3.49% with a £999 fee. This is available for purchase or remortgage for loans of up to 75% of the property’s value.

‘The alternative is an offset tracker, and Woolwich has a good range with lifetime tracker mortgages which are also offset loans,’ says Hollingworth. 'They are available for both purchase and remortgage. For loans up to 70% the rate is Barclays base rate plus 2.59%, which gives a pay rate of 3.09%. If you want a larger loan of up to 75%, the cost is base rate plus 2.78%, which gives a current pay rate of 3.28%.’ Charges are £1,999 plus a £325 valuation fee and legal fees of £333.   

Direct offers

First Direct has four offset-lifetime trackers, but you can only borrow up to 65% of the property’s value. The cheapest offer is at the bank base bate, currently 0.5%, plus 2.39%, which gives a pay rate of just 2.89%: a very good deal. There's a fee of £499 and loans are available for both purchase and remortgage. First Direct mortgages are not available through brokers, so you will have to apply direct.

Bear in mind that with all tracker mortgages when the bank's base rate does eventually move up, so will your mortgage costs – although with the First Direct deal there are no penalties for early repayment if you want to switch to a fixed-rate loan. 

Offset all accounts

There are many other offset deals on offer, but most are short term. With the cost of remortgaging now relatively high, it is probably better to go for a longer-term package. Financial analyst Defaqto says there are currently 249 offset mortgages available. The average rate for a two-year fixed-rate offset mortgage at 75% LTV is 3.24%, and for a lifetime base-rate tracker offset mortgage at 75% LTV is 3.19%.
 
‘Historically, offset mortgages have charged a slight premium over the rates charged by non-offset mortgages, but the gap has narrowed significantly in recent years,’ says David Black, Defaqto’s banking analyst.

First Direct offers the facility to offset not just the balances in a deposit or savings account, but also the balances in your current account, which will reduce costs still further. The Woolwich offset can also be linked to both current and savings accounts, including cash ISAs, and tracks for the life of the mortgage.

Is it for you?

Those who benefit most from offset mortgages are higher-rate taxpayers, because the after-tax amount they can earn on their savings is very low, so offsetting against a mortgage is more tax efficient.  Those who earn large lump-sum bonuses will also benefit, along with anyone who has cash savings that they don’t want to risk on the stock market.

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3 comments so far. Why not have your say?

Drake

Oct 11, 2011 at 19:15

I understand that if a bank goes bust your deposit and the debt to the bank may not be offset, as most people would expect. So if you have a £200,000 mortgage and a £150,000 deposit and the bank goes bust you will get a few pence in the pound back on your deposit and will still owe the bank £200,000. You may also get back £85,000 if the bank is covered by the deposit protection scheme.

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Chuck

Oct 11, 2011 at 19:34

The offset mortgage is excellent in “the good times". Be wary in today’s climate though (or at all times actually). People need to take care to fully understand what access/usage rights you and your bank have to the savings element. You don't want to wake up one day, the bank has paid down the mortgage (permanently) and you cannot take out any cash when you need it most (i.e. loss of job, babies, kids, other emergencies, etc).

To protect yourself, deposit emergency cash (3months income) in another savings account. It is a sign of the times that people need to diversify their cash savings into different accounts.

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Drake

Oct 15, 2011 at 08:58

Chuck, I get the feeling no-one's listening!!

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