Take a tip from City experts and pay your mortgage off as quickly as possible.
Over the Christmas break, I spotted a short article which revealed that many workers in the City of London are opting for shorter mortgages. In fact, the piece commented that fifteen-year deals were becoming the norm. City folk may not have a great track record of looking after other people's money, but they tend to be a lot more savvy about their own finances!
Quite why we repay our mortgages over 25 years is a bit of mystery. My two usual sources - a shout across the office and Google - failed to come up with an answer. Perhaps it was settled upon as a good balance between making monthly payments affordable and not taking so long that the average homebuyer was still paying their mortgage off when they retired.
Anyhow, assuming you do have spare funds, paying down your mortgage as quickly as possible almost always make sense.
With most borrowers paying a standard variable rate of 6.75%, paying off your mortgage early is equivalent to getting a taxable return of 8.4% if you're a basic-rate taxpayer, or 11.25% if you pay higher-rate tax. (Assuming, of course, that you're not sheltering your savings or investments in a tax-efficient vehicle, such as an ISA). In a low-inflation environment, these are both excellent rates of return.
But how much could you save in practice? The table below shows the monthly repayments and interest costs (at 6.75% a year) for a £100,000 repayment mortgage over 10, 15, 20 and 25 years.
Term in
years | Monthly
repayment
£ | Total
payments
£ | Interest
saved
£ |
|---|
| 10 | 1,148 | 137,760 | 69,540 |
| 15 | 885 | 159,300 | 48,000 |
| 20 | 760 | 182,400 | 24,900 |
| 25 | 691 | 207,300 | - |
So, in this example, even overpaying by just £70 a month can shorten your mortgage term by five years and save you £25,000 in interest. Actually, it's a little more complex because, for instance, you might have chosen to invest £70 a month rather than overpay your mortgage. So, your overall saving could be less, depending on how astute your investing was!
There are three main ways to shorten your mortgage term. Firstly, opt for a shorter term at the outset. This has the advantage of making sure that you stick it out. But it's not so great if your income varies considerably, and you're likely to overpay at some times, but not others. In this case, a flexible mortgage may suit you better. Many flexible mortgages allow you repay an extra tenth (10%) of your loan each year without penalty.
Lastly, you could consider a current account or offset mortgage, where your current account and savings balances are "knocked off" your mortgage, meaning that you pay less interest. Of course, there is a price to pay for the flexibility you get with these two home loans. You're likely to find that the interest rate you pay is slighter higher.
Learn more about Britain's Best Mortgages and find out if you could save money remortgaging via our Homeowning centre.
