Mortgage overpayments

Mortgage overpayments explained

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Overpaying on your mortgage means you can clear your debt quicker and save money on interest payments. Could it be the sensible move for you?

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A mortgage overpayment could take the form of a one-off lump-sum, regular overpayments, or both. Essentially, it can be cost effective to overpay on your mortgage if your home loan is at a higher interest rate than you can achieve on your savings.

What is a mortgage overpayment?

When you take out a mortgage, your lender will calculate how much your monthly repayments need to be set at to ensure your mortgage is paid off at the end of the term. The calculation will take into account:

  • The interest rate
  • The term (the number of years over which you are repaying your mortgage)
  • The amount you owe

Making mortgage overpayments simply means paying more towards your mortgage than the amount set by your lender.

A mortgage overpayment could either be:

  • A one-off lump sum overpayment – you might make a single £2,000 overpayment
  • Regular overpayments – your monthly payment might be £500 but you choose to pay £600 each month instead: a monthly overpayment of £100
  • A combination of these two

According to MoneySuperMarket data collected between 16th January and 31st July 2018, the average monthly mortgage payment for a first time buyer is £761. Overpaying on your mortgage payments might not be feasible for you, but it’s worth considering if you are in the position to do so.

The average loan-to-value for different types of mortgages

MoneySuperMarket data collected between January 16 and 31 July 2018

Can I make mortgage overpayments?

Before you think about making overpayments on your mortgage, you need to check if your mortgage product has any restrictions regarding overpayments.

Some mortgages allow unlimited overpayments, but some products limit overpayments to a percentage of the amount owed (for example, ‘10% of the outstanding balance’). You’ll be charged a fee if you overpay by more than the limit.

Rules about overpayments vary between mortgage products as well as lenders. For example, your lender might allow unlimited overpayments on a lifetime tracker mortgage but limit overpayments to 10% of the balance on its fixed rate deals.

If you're paying your lender's standard variable rate (SVR), you can usually overpay by as much as you want. However, SVRs are expensive so if that’s the rate you’re paying you might be better offer remortgaging to a more competitive rate.

Should I make mortgage overpayments?

Overpaying your mortgage won’t be right for everyone so you’ll need to decide if it’s right for you.

If you can get a higher rate on your savings than you pay on your mortgage, you should probably save. But if your mortgage rate is more than your savings rate – which is likely to be the case – it makes sense to overpay.

If you have other non-mortgage debts, you’ll probably be better off paying them off first. This is because credit cards, loans and overdrafts tend to have higher interest rates than mortgages.

It’s also worth considering having an emergency fund. It’s a good idea to have six months’ salary saved up and easily accessible in case you lose your job or have an emergency such as your boiler breaking down.

Does your mortgage have ‘flexible features’? Offset and current account mortgages often allow you to overpay and ‘borrow back’ the money later. If your mortgage is fully flexible you can overpay, safe in the knowledge you can access the money in the event of an emergency.

If you are planning to remortgage, overpaying will reduce your loan-to-value (LTV). Your LTV refers to the amount you borrow as a mortgage compared to your home’s current value. In general, the lower the LTV, the better the mortgage rates you’ll have access to.

The average loan-to-value for different types of mortgages

MoneySuperMarket data collected between January 16 and 31 July 2018

How to make a mortgage overpayment

If you decide mortgage overpayments are right for you, contact your lender. Say you want to make overpayments to reduce your mortgage term.

With some lenders, you’ll be able to change your mortgage payment online and arrange for the higher amount to be taken by direct debit each month.

Another option is to set up a separate standing order to your mortgage account to make the overpayment.

Alternatively, set up your mortgage account as a payee on your online banking and then make regular or ad-hoc payments.

How to calculate a mortgage overpayment

The aim of overpaying is to clear your mortgage debt more quickly, thus reducing the total amount of interest you pay. It would also result in you being mortgage-free sooner. MoneySuperMarket’s mortgage overpayment calculator shows how much interest you could save by making overpayments.

To use the calculator, you’ll need the following information:

  • How much you owe on your mortgage
  • How long it will be until it is fully repaid
  • The type of mortgage: repayment or interest-only
  • Your current interest rate
  • Whether you want to make a one-off or recurring overpayment, or both, and how much it will be

Some examples of mortgage overpayments

Say you had a £200,000 repayment mortgage repayable over 20 years at an interest rate of 2%.

If you made a one-off overpayment of £5,000 you’d pay off the mortgage seven months early and save £2,290 in interest.

If you made regular overpayments of £100 a month, you’d repay the mortgage two years and one month early and save £4,652 in interest over the life of your mortgage.

If you did both – a £5,000 lump sum payment now then a monthly overpayment of £100 – you’d repay the mortgage two years and eight months early and save a total of £6,651 in interest.

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