Is an offset mortgage the best way to beat pitiful savings rates?
STARVED savers struggling to find a decent return may be better off using their cash to reduce their mortgage bills instead.
Savings rates have hit a record low after halving during lockdown, with all the big banks now paying out just 0.01 pc on easy-access accounts.
Anyone seeking a home for a sizeable sum should therefore consider opting for a so- called offset deal instead.
This is where you stash your savings with the same bank or building society you have your mortgage with and use the money to reduce how much interest you pay.
For example, if you have £20,000 in a savings account linked to an offset mortgage of £150,000, you would only pay interest on £130,000.
With a typical mortgage rate of 2.25 pc on an offset loan, this will save you £450 a year in interest.
By comparison, if you left the same £20,000 in the average easyaccess account paying 0.22 pc, you would earn just £44 in interest.
Even with National Savings & Investments’ top-paying account at 1.15 pc, you would still only earn £230 a year.
Crucially, you can still dip into your savings as and when you need to — although the amount of interest you pay on your loan will rise if you do.
Whether these mortgages work out cheaper for you depends on both the interest rate and size of your savings and loan.
There is much less choice with offset mortgages, and they are also more expensive than an ordinary loan.
However, the price difference has narrowed recently to around 0.25 pc, making offset mortgages more attractive for some.
Eleanor Williams, finance expert at Moneyfacts, says: ‘With the fall in the price difference and the fact that easy- access accounts offer rock- bottom rates, this type of mortgage is set to become more popular.’
As a general rule, if your
mortgage rate is higher than the rate you earn on your savings, you could benefit from an offset deal — particularly if you pay tax on your savings interest.
Moneysavingexpert’s calculator can help you work out potential
savings. Go to moneysaving expert. com/ mortgages/ offsetmortgagecalculator/.
For example, if you have £20,000 in savings and a typical £150,000 mortgage taken over 25 years, you would be better off.
At the average 2.25 pc rate you would pay £2,870 in interest in the first year on your loan of £ 130,000 (£ 150,000 less your £20,000 savings).
If you had a normal mortgage at a rate of 2 pc, you would pay £ 2,960 in interest on the full £150,000 loan. And, if your £20,000 in savings were in the average savings account, you would earn £44, reducing this to £2,916.
Over ten years you would save nearly £1,500 with an offset, and £7,000 over the full 25-year term.
However, if you only have £5,000 in savings, you would be better off opting for an ordinary mortgage and savings account.
With an offset deal you would pay £ 45,523 in interest over 25 years compared to £40,486.