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Should you overpay your mortgage with spare cash?
One of the few silver linings from lockdown has been the savings people have amassed. The Bank of England reckons households have built up £125 billion of excess savings and will only spend 5% of that money when the economy opens up.
That leaves a lot of money still sloshing around in bank accounts, and no doubt savers will be starting to think about how to use that money more productively. Getting rid of debt is usually a good idea, so one option is to overpay your mortgage, but it’s not the no-brainer it might seem at first sight.
It’s extremely likely that the rate you’re paying on your mortgage is higher than the rate you’re getting on savings in the bank.
The average rate on instant access cash accounts is currently just 0.12%, whereas on a typical mortgage it’s 2.09%.
You’re likely to benefit in terms of the interest rate by taking cash out of savings and using that to pay down a mortgage. This will depend on the actual rates; the bigger the differential, the bigger the saving.
By paying down the mortgage you reduce the length of time it takes to pay back the loan, and the overall amount of interest you pay to the lender.
The problem is that many mortgages will only allow you to overpay a certain amount each year, often set at a maximum of 10%, though some will be lower.
If you pay back above this amount, you start to rack up large penalty fees, and the whole endeavour becomes uneconomical. Check the terms of your mortgage to make sure you don’t face any punitive charges and adjust your overpayment if you do.
You also need to make sure you maintain enough cash for your rainy-day fund to cover emergencies, typically three to six months of household expenses will do.
Mortgages can be a cheap way of borrowing, so you should also attend to any other debt before your mortgage, because the likes of personal loans, store cards and credit cards will probably be costing you a whole lot more.
The average rate charged on credit cards is 18%. You can often move credit cards to a new account paying 0% for a limited time, but this is just kicking the can down the road, and after the introductory period, the lender will start to charge more normal rates of interest.
If you find yourself awash with cash because of lockdown, overpaying your mortgage is probably a good idea. But it’s worth just making sure there aren’t better uses for your money, or penalties for paying back the cash.