Offset Mortgages

The biggest innovation in the mortgage market in recent years has been the offset mortgage, which is now starting to take a significant share of the mortgage market. Only six years after they were introduced, the offset (current account mortgage) account for 10% of all borrowed UK mortgage capital.

According to one of the UK's largest mortgage lenders, as many as 25% of existing mortgage holders could save money in the long run by choosing an offset mortgage. If you're one of those possible 25%, then it's important that you are aware of the facts, when seeking advice on an off-set mortgage; or any other mortgage for that matter.

What exactly is an offset mortgage?

Here's the concept: you borrow capital from the mortgage lender and you also have savings in another account, which act as a regular current account. Instead of paying interest on your full loan value and earning interest on your savings as one normally would; you pay interest on the amount you borrowed minus the amount you have saved.

For example, if you had £25,000 savings and a mortgage of £110,000, you would only pay interest on the sum total of the debt, which would be £85,000. Your savings would not earn any interest on a separate level, they would simply be linked to the mortgage.

Advantages of an Off-Set Mortgage

Pay less tax: The major advantage of an off-set mortgage is that it is highly attractive to the higher rate tax payers, as they often end up paying less tax overall. This is because they are not earning interest on their savings, and as you know, the taxman always takes a fair amount of that interest away from everyone.

Clarification: If you have significant savings; then you will often provide the taxman with a fair share of it - but not with the offset mortgage. That's why this type of mortgage is so well suited to people that have to pay over 40% tax.

Shorter loan term: Offset mortgages also enable the borrower to complete (pay off) the mortgage far earlier than the conventional mortgages (tracker rate mortgages, interest only mortgages, capped rate mortgages, variable rate mortgages etc) as the monthly repayments are calculated without your savings being included in the equation - therefore you would overpay, and finish paying it off slightly quicker.

There's also the benefit of flexibility - the offset is a lot more forgiving than the traditional mortgage and you can overpay, underpay and take payment holidays without enduring any penalties (charges).

But why hasn't everyone got an Offset Mortgage?

Offset mortgages used to have high interest rates, putting many borrowers off at the first stage of their mortgage investigation. But as this type of mortgage has started to become more popular, lenders are offering better and more competitive interest rates. Why? Simple as the market increases and the competition develop, the tighter the margins and final mortgage offerings improve; simple economics of the modern world.

Disadvantages of an Off-Set Mortgage

The interest rate is however, still higher than a standard fixed rate mortgage. So make sure you seek the advice of a FSA Regulated Independent Financial Adviser. E.g., It's important that anyone considering an offset mortgage must be sure that the tax savings will cover the higher interest charge. Such calculations can only be accurately provided by a professional mortgage adviser (find a mortgage broker).

As a general example for comparison purposes: The standard taxpayer would require savings of £20,000 to put against a £100,000 mortgage to make the offset worthwhile. A higher rate taxpayer would only need £10,000 to justify this type of mortgage. (These calculations were made in reference to an average 4.69% fixed offset rate, and a 4.49% tracker mortgage.) These figures will obviously change with the potential rise and fall of interest rates. Such figures for a personal home purchase knower days are unrealistic and it is fair to say that such mortgage options are only available for those with sizable deposits or second time purchasers.

The many variations on the offset mortgage

Mortgage lenders, in their bid to win your business, offer different incentives that they hope will give them the competitive edge. The most common incentive is a free property valuation or free legal work.

The interest rate also varies considerably - typically from a 6-12 month fixed rate, to a tracker rate mortgages.

The loan to capital ratio (value being borrowed in relation to the value of the property) will also affect the final interest rate.

Skip To Content