If you overpay your mortgage you can save money by lowering the balance of your home loan and also by reducing the amount of interest you’ll have paid by the end. You could be mortgage-free several years ahead of schedule.
You can either make a one-off payment, for example if you have a windfall or inheritance, or make smaller payments on a regular basis, with your monthly payment, maybe. Improving your loan-to-value ratio by reducing your outstanding balance usually means you get preferential interest rates when you refinance, which helps you to save even more.
Use an overpayment calculator
Overpayment calculators look at how long it’ll take you to pay off your mortgage at your “usual” rate and also at your overpayment rate. You’ll also find out how much interest you’ll pay over the lifetime of the loan.
Overpaying your mortgage can be better than putting money into a savings account; you’ll be paying less money at your mortgage’s interest rate, which could work out better than leaving your savings to grow at currently very low savings rates.
Many mortgages have limits on the amounts you can overpay annually, usually 10% of your existing balance. Some let you pay more than this before penalising you, so do check.
If you go over this limit, you may have to pay penalty fees which can eat into or even negate your savings, so call your provider to find out where you stand and how much you can pay in each year.
How to make overpayments
You can create an additional standing order or direct debit each month, or simply increase the amount that comes out at your statutory repayment. Alternatively, you might pay in a lump sum once a year or even a one-off windfall. You simply have to phone your provider and be ready with your card.
The potential drawbacks
Your lender may apply penalties
This may be the case even with smaller overpayments, so make sure you’re not running to stand still. If you have the cash to spare, it’ll be better off in a savings account in these circumstances.
Could the money be put to better use?
If you have credit cards or loans with a higher interest rate, then your extra money should be diverted there instead.
What will the money actually pay off?
If you have a repayment mortgage, then make sure the money comes off the principal balance, not the interest.
If your mortgage is interest-only, then all you’ll be doing is paying off more interest. To pay down your principal amount, you’ll have to talk to your lender.
You may not have enough contingency cash
Not all mortgages will let you redraw overpayments or take mortgage holidays, so even if you’ve made big overpayments, you won’t be able to get the money back in emergencies. If you think you might need to do this, then look for a flexible mortgage, as this will let you access the “extra” cash.