Offset mortgages use your spare cash either just from savings accounts or the money in your current account too to reduce your monthly interest bill.
(To find out more about how they work, read The offset mortgage.)
You earn no money on the cash you offset, but because you are likely to be paying out more interest on your debt than you would be making on your savings, this can make a lot of sense especially if you’re a higher rate taxpayer.
How The Savings Add Up
Imagine you have £20,000 in an ordinary taxable deposit account paying 6 per cent interest a year.
• As a basic rate taxpayer, you will lose 20 per cent of this in savings tax, making it worth 4.8 per cent or £960 a year.
If, instead, you use the £20,000 to cut the cost of an offset mortgage, with an interest rate of 6.25 per cent, you will save £1,250 (6.25 per cent of £20,000) an overall gain, after the loss of that £960, of £290 a year.
• As a higher rate taxpayer, you will lose 40 per cent of your deposit account interest, making it worth just 3.6 per cent or £720 a year.
This means using the £20,000 to save £1,250 of mortgage interest will actually leave you £530 a year better off.
Over a traditional 25-year mortgage term, that adds up to £13,250.
The Offset Choice
You can either opt to reduce your mortgage payments by this amount (known as paying net) and simply enjoy spending the extra cash.
Or you can leave your payments as they were and, by effectively overpaying, clear your debt much faster (paying gross).
This will leave you mortgage free years early.
To see how much more paying gross could save you in the long run, read How much could I save by offsetting?