It’s a perennial question and one we get asked a lot here at Moneyraters – after all, savings rates are not doing well and many people think that overpaying their mortgage is the right thing to do. They think that they’ll be able to save tens of thousands of pounds when it comes to interest. However, overpaying your mortgage may not be right for you – limiting your available cash on hand or finding yourself dealing with penalties associated with your mortgage repayments means that it’s not as simple as you think.
Should I overpay on my mortgage?
Overpaying your mortgage can be the right thing to do for some people, but not for everyone. It’s true for many that you can experience a large boost by overpaying your mortgage. But why is this the case?
- You’ll be able to eat into the debt associated with buying your home. This means that you can pay your debt off sooner. Who wouldn’t want to be mortgage-free earlier right?
- The amount you overpay isn’t something that you’ll need to pay interest for – slashing the amount of interest you need to pay overall.
- Sometimes, what you’ll be saving on interest payments can end up beating what the possible returns are, should you save that amount. This is because the savings rates right now are not doing well.
When you overpay your mortgage, the gain you’ll be making is the same as what you’d make by saving what your mortgage rate is. Say you have a mortgage that’s 2%. You would need to have savings to pay this amount at least. In case you’ve already made use of what your saving allowance is, you would need to save more. If you are a taxpayer in the higher rare category, then you’ll find yourself needing to earn 5%. This is difficult to get at the moment when it comes to Cash ISA accounts.
However, before you decide to use all your savings to overpay your mortgage, there are some things that you’ll need to consider.
Check if there are Early Repayment Penalties involved
Some lenders allow people to pay around 10% of the balance of their mortgage through overpayment. This can be done each year, should you still be in your discount or within an introductory period. If you track your mortgage, or you don’t mind paying the standard variable rate of your lender, then you can overpay your mortgage usually without additional fees.
Sometimes, however, standard variable rates can turn out to be expensive and not ideal for the savvy saver; in fact, it’s almost always a better deal to remortgage than stay on your lender’s standard variable rate so be sure to compare mortgage rates and shop around.
Remember that the 10% overpayment rule doesn’t apply to all lenders. Some lenders will punish you for overpaying as well. They can charge fees that are between 1-5% on the amount you’re overpaying. This would depend on what your mortgage is so always check your policy details carefully.
The amount you’ll need to pay would usually decrease, should you find yourself overpaying near the end of your fixed and your discount period. The reason lenders impose penalties is that they want people to stick with them, even after the period of the cheap rate ends. This is also because they want to make their interest amount from your debt.
Consider whether you have other debts
There are some good rules when it comes to clearing your debts but generally, it’s always a good idea to pay off your most expensive debts first. Do your calculations and see where interest won’t build up. You’ll be able to save cash while clearing your debts faster.
A classic example is a high APR credit card or other expensive loans. Pay these off before you overpay your mortgage, as they tend to be more costly to hold and may even be easier to clear completely depending on your balance. Some debts you shouldn’t clear before overpaying your mortgage include your student loan debt as well as any credit card debt you have at a 0% interest rate.
Consider what’s in your emergency fund
Everyone should have an emergency fund. If you end up overpaying your mortgage, most of your savings will be gone. If you find yourself urgently in need of cash, you may have to borrow again. If you’ve overpaid before, this won’t prevent your lender from charging you for paying late next time. This is why it’s always good to have savings account for emergencies. A good guide is to keep cash that you’ll need for the next three to six months, in your emergency fund.
Overpay or save?
There are times when overpaying is the right thing to do, but you should do your research on whether there are penalties in place or not. Consider also whether you have an emergency fund in place or not. If you don’t, then saving enough for daily expenses for the next three to six months could be a better idea.
Should you have your emergency funds in place, and find that you don’t need to pay a penalty for overpaying, then you can invest in paying off your loan. Consider, however, whether you have other debts that you need to clear first.