With the increasing cost of living and unpredictable interest rates, you might wonder if paying off your mortgage faster is a smart move. It’s a question that many homeowners find themselves asking, and my answer is almost always “yes”.
If it is affordable and fits your financial goals, it’s wise to make overpayments on your mortgage, either as a lump sum or with regular monthly payments. That way, you will pay less interest overall and be mortgage-free sooner.
This guide breaks down the pros and cons, helping you decide whether making additional payments on your mortgage is right for you.
For more personalised mortgage advice, contact Goldmanread. As a mortgage broker with decades of experience, we specialise in helping homebuyers in Essex and beyond to find the best mortgage deal.
What does it mean to overpay your mortgage?
Overpaying your mortgage means paying regular higher monthly payments or paying a lump sum off of the remaining loan amount. This extra money goes directly toward reducing the amount you owe on your loan. Over time, this can help save money on interest and help you become mortgage-free sooner.
How do overpayments reduce your mortgage debt?
Mortgage overpayments work by reducing the amount you owe, i.e., the capital. Since interest is charged on the capital, paying off more reduces how much interest you pay over time. This lowers the total cost of your mortgage and can help you pay it off faster.
When should I overpay my mortgage?
You might consider overpaying your mortgage if:
- you have extra cash each month after your essential expenses are covered,
- you have no other significant or high-interest debts,
- you have savings or an emergency fund.
Most banks offer a degree of flexibility about when you can pay down your loan. However, overpayments are often limited to 10% of the outstanding mortgage balance, especially for fixed-rate mortgages, after which there are early repayment charges.
Still, even small overpayments can add up to a significant amount over the course of the term. If overpaying your mortgage is something you are likely to consider, it’s important to check the terms when you take out a new mortgage, as flexibility varies between lenders.
Benefits of overpaying your mortgage
There are a number of benefits of overpaying your mortgage, as follows:
- Monthly overpayments reduce the outstanding loan balance, meaning that you will pay less overall interest.
- Extra payments shorten your mortgage term, helping you become mortgage-free faster.
- By overpaying, you can build up more equity in your property, which can reduce your loan-to-value when you come to remortgage (subject to market conditions, of course). This means you could benefit from a lower interest rate.
- If you have an interest-only mortgage, overpayment flexibility is especially valuable because it allows you to reduce the actual loan amount (the capital), which isn’t typically paid down with regular interest-only payments. By making extra payments, you decrease the total debt and may also reduce the amount of interest you’re charged.
Drawbacks of mortgage overpayments
Mortgage overpayments reduce financial liquidity as the extra money is tied up in your property. Also, by overpaying your mortgage, you have less to invest in savings and pensions, which could generate higher returns.
Other than that, there are no real drawbacks to making higher monthly repayments. However, if you have other debts, such as credit cards, personal loans or HP agreements, it may be more beneficial to repay these first, as they usually have higher interest rates. This is because mortgages are a form of secured lending, so the lender is willing to charge a lower rate to reflect this higher security.
How to make an overpayment on a mortgage
To make an overpayment on your mortgage, you should contact your lender, confirm the terms (such as if there is an early repayment penalty) and ask what their preferred method of making overpayments is. Many lenders allow you to make extra payments via a standing order or bank transfer.
Can I stop making overpayments if my circumstances change?
If your circumstances change and you no longer have any spare cash, you can stop making overpayments. As long as you continue meeting your minimum monthly payments, you won’t incur a penalty.
What are the alternatives to overpaying your mortgage?
Offset mortgages
The most common alternative to overpaying a mortgage is an ‘offset’ mortgage. This involves setting up a savings account linked to the mortgage. The savings in the account don’t earn interest, but they are subtracted from the total mortgage balance to calculate the interest owed, meaning that you pay less interest over the mortgage term.
For example, if you have a mortgage balance of £250K and £100K in a linked savings account, you only pay interest on the net figure of £150K. It’s important to realise that, with an offset mortgage, you don’t earn interest on your savings, but you do save interest payments on your mortgage.
Offset mortgages are particularly beneficial to higher-rate taxpayers. This is because the interest earned on a savings account is taxable, but the reduction in mortgage interest is effectively tax-free.
Another benefit of an offset mortgage is that it allows you to reduce the interest on your mortgage without tying up your money in your property. Your savings are accessible while still lowering your mortgage balance.
Investments
Another alternative to overpaying your mortgage is to invest in savings, stocks or a pension fund. Many choose to top up their pension instead of making mortgage overpayments, as there is tax relief on pension contributions. It’s important that you speak to a financial adviser to decide which is the correct course of action for you.
Looking for mortgage advice? Get in touch with Goldmanread
Goldmanread has been advising clients on their mortgage requirements since 2009. We can give you valuable advice about whether it is worth overpaying your mortgage based on your circumstances and goals.
Please contact us for an initial chat on 0330 127 1489 or complete our contact form.
Frequently asked questions about mortgage overpayments
Should you overpay your mortgage monthly or save money?
The answer to this question depends on a number of factors. Ask yourself:
- Would I earn more in interest on savings than I would save in mortgage interest?
Consider your current mortgage rate and compare it to typical savings rates to see what you could save/earn over, say, five years. - Do I need spare cash to be accessible?
If so, it’s probably better to leave your money in a bank account or invest it in an accessible savings account. - Is it better to pay off my other debt?
If you have unsecured loans like credit cards, it’s probably worth clearing those debts first, as the interest rate is likely higher than your mortgage rate. - Will my lender charge a penalty if I overpay my mortgage?
Most mortgage lenders allow mortgage overpayments, but they usually restrict how much you can overpay per year, after which they will enforce an early repayment charge. It’s very important to check the terms of your current mortgage first.
Can I overpay my mortgage without penalties?
Most mortgage lenders are flexible when it comes to overpayments. They will allow you to overpay up to a set amount each year, typically 10% of the outstanding balance, without penalties.
It’s important to check the terms and conditions of your current deal with your mortgage lender or mortgage broker first.
Does overpaying my mortgage improve my credit score?
Making overpayments on your mortgage could improve your credit score, but that’s not guaranteed. By making overpayments, you are lowering your debt-to-income ratio.
This is evidence that you are financially responsible, which can make you a better prospect for future lenders. However, your credit score depends on your financial situation as a whole, not just your mortgage.
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