A Guide to Offset Mortgages

If you have substantial savings to put towards buying a new home, there are two main options to consider. Putting your savings towards a large deposit can reduce the size of your borrowing and interest rates, and therefore your repayments. However, did you know it’s also possible to keep hold of your savings and still use them to reduce the total interest owed on your mortgage?

Here, we look at how offset mortgages work, where to get one, and whether this option could help you to make the best use of your savings.

What is an offset mortgage & how do they work?

An offset mortgage involves linking your mortgage account to a bank account held with the same lender. Some lenders allow you to link multiple accounts to the same mortgage. Any money held as savings is used to offset (cancel out an equal level of) interest owed on your mortgage.

You can add to and reduce the balance whenever you wish, but remember that taking money from your savings balance means you’ll owe more interest on your mortgage. It’s also worth noting that you won’t earn any interest on savings that are being used to offset mortgage interest.

How are they calculated?

In practice, the savings held in your account will offset an equivalent chunk of interest that you owe as shown below:

• You borrowed a £300,000 mortgage loan

• Your linked savings account(s) contains £100,000

• You only pay interest on £200,000 worth of your mortgage loan balance

If your mortgage interest rate is higher than your savings interest rate, your savings are generally being put to better use in canceling out the interest you owe.

Types of offset mortgage

There are several offset mortgage options available:

• Savings account offset mortgages: This is the most commonly used, as savings accounts tend to have a higher balance, offering the most benefit.

• Current account offset mortgages: Some lenders offer this as an option, usually where savings and current accounts are combined as one. But this can make budgeting more complex as the balance on current accounts typically changes monthly.

• Family offset mortgages: This can be beneficial to first-time buyers on a lower income, as it allows, often multiple, family members to link their savings accounts to your mortgage to offset your mortgage interest.

• Flexible offset mortgage: Flexible mortgages can vary, but they typically allow greater repayment flexibility. For example, they allow for overpayments or payment holidays. It’s possible to find flexible offset mortgages, which combine the benefits of flexibility and offsetting savings against your mortgage balance.

Affordability and repayments

Usually offset mortgages are used to shorten the mortgage duration by reducing the interest payable. Most people continue to repay the same monthly amount, thereby reducing the balance more quickly and fully repaying the mortgage over a shorter term. Sometimes this can reduce a mortgage term by years, depending on how much you have held in savings.

The other option is to use your savings to reduce your monthly payments. This means repaying your mortgage for the original term, but your monthly payments are lowered by the amount you save on interest each month. While some lenders offer this option, those with substantial savings don’t often struggle with affordability, so prefer to reduce their mortgage term.

However, the following example shows how your repayments could differ based on different savings values when borrowing of £300,0000 at 5% APR* over 25 years:

*Rate is for demonstration purposes only and assumes that both the standard mortgage product and the offset mortgage are set at this rate. In reality, offset mortgage interest rates are likely to be higher than standard mortgage rates

Eligibility criteria

The criteria for an offset mortgage are typically the same as for any other mortgage application, but you may need to consider the following in addition:

• You need to either already have an account with the same lender, or you’d need to open one and deposit a lump sum into it

• Some lenders may require you to have a minimum savings balance in order to use an offset mortgage product

• The maximum LTV (loan-to-value) allowed on an offset mortgage may be capped by some lenders, which could increase your minimum deposit requirement

Compare offset mortgage rates for free

Because significant interest savings can be made on offset mortgages, the interest rates available on these products can be less competitive and are often higher than standard mortgage rates. Be sure to take this into account when calculating how much interest you could save overall with an offset mortgage.

The loan-to-value of your borrowing is also likely to impact the interest rates available to you, with the best offset mortgage rates typically available to those with a lower LTV loan.

Comparing the total cost, including fees, against any loss of savings interest can be fairly complex - especially when each lender has their own rules and criteria surrounding offset mortgages. A broker with experience in offset mortgage comparison, like us, can help ensure you find the ideal product for your needs and make the best use of your savings.

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Which lenders are available for offset mortgages?

There are very few offset mortgage providers available in the UK, with the majority of products offered by building societies. Lenders currently available include:

• Family Building Society

• Accord Mortgages

• Clydesdale Bank

• Barclays

• Coventry Building Society

Most lenders offer fixed interest rates and repayment options, but not all lenders have tracker deals or interest-only repayment options available.

Pros and cons

As with any mortgage, there are benefits and drawbacks to an offset mortgage, and whether or not it’s the right choice for you will depend on your circumstances, and what you’re looking for.

Some potential benefits are:

• Often mortgage interest is higher than savings interest, so your money can offer you more value by reducing mortgage interest compared to what you would earn in interest over the same duration

• You won’t have to pay tax on any savings if the balance is offset against your mortgage

• Savings can still be accessed in an emergency when held in an offset account, whereas if you hand over savings as a deposit, you can’t get it back

Some potential pitfalls are:

• You’ll likely pay a higher interest rate than on a standard mortgage product

• You may save more money with the mortgage rate available to you from dramatically lowering your LTV by using your savings as a larger deposit instead

Why choose Teito for your offset mortgage?

At Teito you can compare the latest offset mortgage rates for free, and get expert advice from our team of mortgage brokers if you need help choosing the best one for your needs.

Other offset mortgage borrowers have chosen us because:

• You can choose your product independently, or ask for additional help

• Our brokers specialise in offset mortgages and can help with complex applications

• Your initial consultation is always totally free of charge

• You could secure an agreement in principle in minutes

Get started here to compare rates or take advantage of a free, no-obligation chat with an offset mortgage expert today.