An offset mortgage can help reduce your monthly mortgage payments and the length of the loan.
But, what is an offset mortgage, how does it work, and what are the pros and cons of getting one?
Let’s find out.
Offset mortgage explained
An offset mortgage is a home loan that links the borrowed sum with one or more savings accounts that the borrower holds with the mortgage lender.
In some cases, borrowers can link both their current and savings accounts to their mortgage balance. This can subsequently reduce the amount of mortgage they’re paying interest on since the funds in the accounts offset the mortgage rate.
How does it work?
With an offset mortgage, the offset savings account and the mortgage are linked.
For example, if you borrow £100,000 and have £10,000 in the savings account, you will only pay interest on the £90,000 you borrowed rather than the full sum, which would be the case with a traditional loan.
Borrowers can still withdraw money from their savings account, but this also means that the interest on the loan will rise. What’s more, as long as the savings account is linked to the mortgage, the borrower will not earn interest on that account.
Borrowers typically need a variable-rate mortgage to link to a savings account. If they have a fixed-rate loan, they’ll have to wait until the end of the term.
Offset mortgages: Pros and Cons
As with everything, offset mortgages have their advantages and drawbacks.
Benefits of an offset mortgage
- Payment could be lower
Getting an offset mortgage can help borrowers save some money since the funds on the savings account offset the mortgage’s interest. The more money you put into savings, the less interest rate you pay.
- Could pay off the mortgage sooner
Since borrowers pay less on a month-to-month basis, due to the interest rate offset, they might be able to make additional payments on their mortgage and pay out the loan faster. Paying debts on time may also help in building a good credit score.
- Instant access to savings
Borrowers have full access to the mortgage offset account. They can withdraw money from the bank at any time.
- May be able to access overpayment funds
If you overpaid on your offset mortgage, your offset mortgage provider might allow you to use those funds again or take a break from making payments.
Disadvantages of an offset mortgage
- Interest rates can be higher
If you get an offset mortgage that is flexible, you may wind up paying a higher interest rate. The average mortgage rate for a five-year loan in 2020 was 1.79%.
- Your savings won’t earn any interest
Borrowers don’t earn any interest on the funds in the savings account until the mortgage is paid out. Interest rates on savings accounts in the UK earn between 0.25% and 0.5% since the Bank of England lowered the average interest rate to 0.1%.
- Mostly available on variable rate loans
To get an offset mortgage, you’ll have to wait until your term ends to transfer from a fixed offset mortgage to a variable rate loan.
What types of offset mortgages are available?
Fixed-rate
With fixed-rate offset mortgages, the interest rate is fixed for a set period of time, typically 2-3 years, after it has been offset by the funds in the savings account.
Tracker
A tracker mortgage is linked to a specific index and has a variable interest rate. For example, an offset mortgage in the UK typically follows the Bank of England base rate.
Discount
With this type of offset mortgage, borrowers get a discount on the interest rate they pay, based on the lender’s standard variable rate.
Interest-only
In an interest-only mortgage, the entire borrowed sum is offset by the savings account balance. Borrowers are only required to pay interest on the loan on a month-to-month basis and don’t have to repay the capital until the end of the term.
Family
A family offset mortgage, also known as a “parent offset mortgage,” allows borrowers to link the mortgage to their children’s savings accounts or vice versa.
How much can one save with an offset mortgage?
This depends on the type of mortgage loan you opt for and the size of the savings, but generally, borrowers can save a significant sum with an offset mortgage account.
For example, if you borrow £200,000 with £20,000 in the savings account, at a 3% fixed interest rate over a 25-year term, you’ll pay around £899 a month and save a total of £14,700.
Bottom Line
What is an offset mortgage without a savings account? A regular loan.
Mortgages come in all shapes and sizes to match the needs and budgets of different borrowers. Offset mortgages are the best choice for diligent savers.
My name is Marija, and I'm a financial writer at DontDisappointMe. Although finance might not be everyone's cup of tea, my 10+ years of working in one of the biggest banks in my country, and my interest in extensive research on everything finance/investment-related, have made me somewhat of an expert in the field (if I do say so myself). No longer having the passion to work in a corporate setting, I decided that I couldn't let all of this knowledge go to waste so I started writing. And, here I am! Today I try to share my knowledge with my audience in the hopes of making this topic as simple and interesting as possible. In my leisure time, I like spending time with my family and travelling to new locations.