Their heyday was the late 1990s and early 2000s, but since then they have fallen out of favour. However, offset mortgages appear to be making a comeback, with some brokers reporting increasing demand.
They link your savings to your home loan, so a savings balance is used to reduce – or offset – the interest you pay on your mortgage. And the renewed interest is partly down to one of the financial side-effects of the pandemic: the fact that some consumers have been lucky enough to be able to build up large pots of “lockdown savings”.
Many want this cash close at hand – not tied up in the stock market – but with savings rates currently so dismal, they would like to find a way to make their money work harder.
Similarly, some people have earmarked a large sum for something like a big home improvement project, or buying another property, but don’t know when, or even if, this will happen, and in the meantime the money is earning next to no interest.
With an offset mortgage, you have your home loan and a linked savings account (and maybe your current account, too) with the same bank or building society. You offset your savings against your mortgage, so you are only paying interest on the balance. If the mortgage is £200,000 and you have £30,000 savings, you only pay interest on £170,000.
Some people will potentially be able to knock years off the mortgage term and save thousands in interest. As savings cash is kept separate from your home loan, you can access it whenever you wish.
“We have been seeing increasing demand as borrowers look to capitalise on the cash they have in the bank, and we suspect this will continue in the coming weeks and months,” says Chris Sykes at the mortgage broker Private Finance.
Ray Boulger at the rival broker John Charcol says offset mortgages “can offer very useful benefits for some people, and anyone who has accumulated more savings during the lockdowns should consider the option when they come to the end of their current deal”.
But he stresses that people need to balance the benefits against sticking with a standard mortgage and using some of their accumulated savings to pay off a chunk of what they owe, in order to qualify for the cheaper deals that become available as the loan-to-value (LTV) falls.
In other words, offset is not for everyone. Boulger also points out that a relatively small number of lenders offer them, “and the interest rates will generally be slightly higher than the cheapest standard deals available”.
Providers include Scottish Widows Bank, Barclays, Coventry building society, Accord Mortgages (part of Yorkshire building society) and Clydesdale Bank.
They all work slightly differently, but you typically choose between using the interest saved to reduce your mortgage term, or your monthly payments.
Everyone’s circumstances are different, so many providers have offset mortgage calculators on their websites to let you play around with the numbers.
We used Barclays’ calculator to come up with this simplified example. It is based on someone looking to take out a £350,000, 25-year repayment mortgage on a £500,000 property. They have existing savings of £50,000 earning 0.5% interest, and plan to add £200 a month to their offset savings account. Barclays says its two-year tracker, with an initial pay rate of 1.72%, was its lowest offset mortgage rate currently available, based on this person’s 70% LTV.
If the borrower signed up to this, and opted to reduce their mortgage term, they could potentially repay it one year and 10 months early, saving £6,524 in interest. That’s because their monthly payments (in this case, £1,436) are based on the full loan amount, even though the interest they need to pay is lower – so they are effectively overpaying each month.
If this borrower opted to reduce their outlay instead, they could save an average £96 on monthly payments (it’s reduced to reflect the fact they are offsetting their savings). Over 25 years, that would cut the interest by £29,000.
There are several big caveats. For simplicity, we assumed a 25-year term, but many people like hopping from one deal to another. And, of course, financial circumstances change over time. Ideally, you need to be fairly confident you will be able to keep significant sums in your linked savings account over the mortgage term.
Boulger says that “the beauty of an offset mortgage is that it is the only type that effectively allows you to reborrow any overpayments without the lender having to do an affordability check. This is because technically you are not borrowing more money but simply withdrawing funds from your linked savings account”.
The Barclays deal above is available to purchasers and those remortgaging.
Sykes is a fan of Scottish Widows Bank, where offset is available on all products. Its two- and five-year fixed rates for those remortgaging start at 1.19% and 1.35% respectively.
Many of those looking at an offset deal are probably taking a long-term view, so a long-term fixed rate may be appropriate, says Boulger. He highlights a 10-year fix by Coventry building society that is available up to 65% LTV at 2.39%.