FOOL SCHOOL
New Types Of Mortgages

May 2, 2003

Flexible, current account and offset mortgages are fairly new additions to the line-up of mortgage products.

Flexible

A mortgage is 'flexible' if it allows you to overpay and underpay when the need arises. Many standard mortgages will let you pay, say, 10% a year more than necessary. This means you can pay off the mortgage earlier than you expected, or you'll be allowed to take back some of your overpaid cash if you ever need to. In other words, you can take a 'payment holiday' should the need arise.

If this is the sort of deal you're looking for, you must ask your prospective lender how 'flexible' their particular mortgage really is. Some lenders will make you 'ask' for the money back, i.e. apply formally for the cash, while others will allow you to just help yourself to the surplus by underpaying.

Current Account

Current account mortgages are a little different, and they come in several shapes and sizes. They effectively work by turning your mortgage into a frighteningly large overdraft. They allow you to set off all the savings you own against all the debts you that owe.

You're essentially combining all your debts with all of your income in a single current account. So every time your salary goes in, you reduce the amount of the 'overdraft'. Every time you take money out, the overdraft increases. This means you can overpay and underpay without being penalised for it. You simply have to repay the loan by a set time -- either by gradually reducing your borrowings to zero (just like a repayment mortgage) or by using a separate investment such as an ISA to repay your capital at the appropriate time (similar to an interest-only mortgage).

The great thing about current account mortgages is that the interest charges on all your borrowings are at the cheaper, variable rate for mortgages instead of the more common credit card rates (around 15%-20%). However, to compensate for this, rates on current account mortgages, and indeed flexible mortgages, tend to be slightly higher than standard mortgages. So you may need to do some sums to see if you would be better off taking this route.

On top of the obvious benefit of flexibility, you can also use your savings to offset your mortgage costs, thus paying it off more quickly. There are tax advantages too -- particularly if you're a 40% taxpayer. You don't pay any tax on the reduced interest you pay, because of your savings.

Bear in mind that, with current account mortgages, you have to have a certain amount of discipline. You might find it rather too tempting to just blow your overpayments on that holiday in the Caribbean that you've always wanted, only to find you've been made redundant when you return. So be warned! Overpay when you can, but only take advantage of the facility to underpay when you absolutely have to.

Offset

An offset mortgage is a cousin of the current account mortgage. Although your savings, loans, credit card balance and mortgage are held in different accounts, when it comes to calculating the interest due, these accounts are offset against each other. So any balance on your savings reduces the amount you owe on your cards, loans etc. This means you can end up paying a lot less interest, and you also get the same tax advantages as mentioned above for current account mortgages.

Find out more about these new types of mortgages.