What are the benefits to making overpayments on your mortgage?
Having a mortgage can help you buy your first home or, if you're a home-mover, purchase a home with more much-needed space.However, the likelihood is that you're also counting down the days until you're mortgage-free!
So, let's take a look at some of the benefits:
- You could potentially pay off your mortgage sooner by reducing the outstanding mortgage balance.
- You can save money! Paying off your mortgage earlier means that it will incur less interest, and in turn, you will pay less overall.
- You could have access to better mortgage deals. Overpaying your mortgage means that when your renew your mortgage, you could get a better LTV (loan-to-value) mortgage deal.
If you have the spare cash, then there can be savvier ways to manage your money than simply saving it.
What is the maximum that you can overpay on a mortgage?
Many mortgage lenders set a limit on how much you can overpay on your mortgage each year, and it will largely depend on your mortgage terms.Some mortgage deals are stricter than others, but as a rule of thumb, you can usually overpay 10% of your mortgage balance per year. If you go over this, your lender may charge you an early repayment charge (ERC).
Before you make an overpayment, find out the fees and limits that are set by your lender. You can do this by checking your mortgage terms, or logging into your account and looking online.
How much money can you save by overpaying a mortgage?
It can depend on different factors, such as the mortgage interest rate, the type of mortgage and the amount of debt remaining on the mortgage loan.
However, let's take a look at an example to get a better idea of how much money you can save.
If you have a 25-year mortgage with a 3.5 percent rate and £200,000 remaining on the mortgage term, by paying an extra £200 per month it could save you £26,000 in interest payments and clear the debt 6 years earlier.
Overpaying by £100 a month could save you £15,000 and reduce the mortgage term by three years.
If you decided you could only spare an extra £20 a month in addition to your regular monthly expenses, this could still save you £3,500!
To find out how much you could save, why not enter your details into a Mortgage Overpayment Calculator and find out how much extra mortgage repayments could reduce your balance by.
Ways you can overpay your mortgage
You may be wondering, how can I overpay my mortgage? If so, there are two ways that you are able to do this.
As long as you keep within the limits of how much you are able to repay each year, you won't incur any extra charges
1. Lump-sum overpayment
Some months you may be able to pay more than others, or perhaps you have come into some extra cash and you would like to put some of it towards your mortgage. By making a one-off payment, it is the most flexible way to make an overpayment on your mortgage. Some months you may decide to make an overpayment, and sometimes you won't want to make one at all.
This is also a great option for people with varying monthly incomes, or want to make overpayments but cannot commit to it regularly.
2. Increasing your monthly repayments
Some lenders will allow you to change your monthly payments through online banking, whereas others will require you to make a bank transfer each month. It is worth checking with your lender first before making any overpayments to find out how you're able to set up a regular payment, and to double check on any fees.
By paying the same amount each month on top of your normal mortgage payment, you can factor this into your monthly cashflow and be able to budget for this.
Should you overpay your mortgage or invest money in other areas?
There are many different ways that you can use your savings, or extra monthly cash flow to help you reach your financial goals.
However, if you are thinking about overpaying your mortgage, you might want to consider how that disposable income might be better spent elsewhere.
Before you start making any overpayments, ask yourself the following questions:
- Do you have emergency savings?
- Are you allocating money to pay off outstanding debts?
- Are you paying into your pension?
- Have you considered investing?
If you answered no to any of those questions, perhaps look to see if your money could be better spent elsewhere before making extra payments on your mortgage repayments.
It could be safer in the long run to have emergency savings, if you do not have an emergency fund to cover at least 3 months of living expenses (6 months is ideal), you could concentrate on this first.
Perhaps you have outstanding debt that is gathering interest and stopping you from lending more finance in the future. You could also invest in your future by paying into your pension pot.
Or, have you considered other investments?
There are plenty of other places to put your money instead of repaying your mortgage faster. You could build up of portfolio of bonds, stocks and shares that could offer a potentially higher growth rate - although arguably riskier.
If you would rather put that extra money into the house, you could look at ways to increase the value of your home instead. You could improve the value of your home whilst also improving your quality of life by adding an upgraded kitchen or a much-needed extra bedroom.
Overpaying vs Paying Off Other Debts: Which is Better?
If you have other debts looming over you, it may be worthwhile assessing which route would be better to take; paying off your mortgage or other debts.
Ultimately, it depends on what type of debt it is.
There are two types of debts, good debts and bad debts. A good debt will add to your future goals and improve your finance over time.
Examples of good debt are:
- Student loan
- Mortgage debt
- Finance that helps to build credit scores
However a bad, or expensive debt are those that cost a lot of money to pay off over time. These are debts that have high interest rates and add no benefit to your long-term financial goals.
Examples of bad, or expensive debts are:
- Payday loans
- High interest credit card loans
- Borrowing money to pay off other debts
If you have any of these bad debts, it can be more beneficial to focus on repaying these first rather than overpaying your mortgage debt, if you have extra money.
Should I overpay on my mortgage if I can afford to?
If the current savings interest rates are low, and you have the spare money then it could be more beneficial to make additional payments on your mortgage instead of putting that money into savings.
But, if you have bad debts then take a look at those first if you can. Or at least try to reduce them.
Don't forget there are other ways to invest in your future, like adding any spare money into a retirement pot or a rainy day fund.
Consider whether you can afford to make a regular monthly mortgage payment, or if it makes more sense to make a lump sum payment as and when you can.
Living costs are continuing to rise and many peoples financial situations have changed over the last few years, so seek financial advice first if you are unsure.
Key Takeaways
- By making mortgage overpayments you can potentially pay less money, pay off your mortgage earlier and save money when you come to remortgage by having a better loan-to-value (LTV).
- It can vary by lender, but most banks will allow up to 10% of the outstanding mortgage balance to be paid off each year.
- Extra payments can be paid by increasing your direct debit to make monthly overpayments, or by making a lump sum overpayment.
- There may be other alternatives to make extra payments too, rather than to just your mortgage. Consider paying off bad debts first, adding to your pension pot, savings or investing instead.