Shave Thousands In Interest Off Your Home Loan
Don't panic about your mortgage, do something to help reduce it. Find out why offsetting could be the answer.
Unless you've completely ignored the news for the last few weeks you will be aware of the current crisis regarding sub prime mortgages in the States. And with the problems now rippling across the pond, with UK banks raising interbank lending rates, it seems likely that we will soon find mortgage rates here rising as a result.
Unsurprisingly, these problems have made us all a little twitchy. Indeed, if you need to remortgage, it could be prudent to try and snap up a good deal as soon as possible. And if you don't, the best thing to do in these kind of situations is to simply sit tight and try and ride it out.
But if you are concerned about the future, one of the best ways to help yourself is to reduce your debt by as much as possible. And a great way to do this is to ask for an offset facility on your mortgage.
The idea is simple. Your mortgage is your biggest debt, accruing interest on a daily basis. Your savings on the other hand are earning interest on a daily basis. If you can somehow link the two, your savings could work against your mortgage and mean you won't be charged interest on that portion of the loan. Of course, you won't earn interest on your savings either, but as the interest accrued on your mortgage is likely to outweigh the interest earned on savings (after tax) you'll be quids in.
As always, an example speaks a thousand words. Say Sam had a £100k, 10 year repayment mortgage at 6%APR, and at the same time had £10k sitting in a savings account earning 6%AER. His mortgage would accrue £33,224 in interest over the 10 year term. His savings, on the other hand would earn him £4,243 in interest as a higher rate taxpayer (or £5,981 for a lower rate taxpayer) in that same timeframe.
Now, if he were to instead stash his cash into his offset mortgage account, it would have the effect of reducing his home loan to £90k. This means that it would accrue £19,902 in interest over the 10-year term, a whopping £13,322 less than that accrued by the full £100k. And the interest saved is over three times what he could have earned by leaving that cash in his savings account. Fantastic!
Looks like a no-brainer, right -- saving thousands of pounds off interest on your mortgage? It's especially interesting when you hear that most modern mortgages allow you to have some sort of offset facility, you just need to ask. But there are a few things to bear in mind.
For a start, to really make a difference the rule of thumb is that you'll need about £10k in savings for every £100k of mortgage debt. You should also obviously leave the cash untouched for as long as possible (ideally the term of your mortgage). Of course, only the very wealthy tend to have tens of thousands of pounds just sitting in a savings account. But most of us have some sort of rainy day fund, containing between three and twelve month's income to be used in case of emergency -- could you use that to offset your mortgage instead?
Additionally you should ensure that your mortgage interest is calculated on a daily basis, and if remortgaging to an offset deal make sure you receive a good deal (in the past, offset mortgages have been known to be far from competitive).
Anyone self employed or contracting could find offsetting to be a great option, as monies set aside for yearly tax bills could be stashed in an offset account to be used against their mortgage. And many City workers find this a great place to stash their hefty annual bonuses.
However, if you can't offset your mortgage, or you simply don't have a lump sum of cash available to use, you could instead hack away at that debt by increasing your payments by a little extra each month - and overpay your mortgage instead.
Offset mortgages clearly offer a great opportunity to reduce the interest payable on your biggest loan and could mean that your home is your own years earlier. Let's face it, savings rates would have to climb significantly for most tax payers to be able to earn more interest in a savings account, than they could by using it against their mortgage debt. So why not find out if you can offset your mortgage -- you could find it's well worth the trouble.
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