Confused.com’s Guide to Overpaying your Mortgage

• Guides
• Published: 19 Mar 2009 in Money and Mortgages

What to consider before overpaying your home loan

Interest rates have fallen steeply since October 2008, knocking a substantial amount off monthly mortgage repayments for people on variable rate deals, but how should homeowners make the best use of this extra cash? Confused.com’s guide to overpaying your mortgage tells you what needs to be considered.

Mortgage overpayments

If you’ve got an extra bit of money lying around, the first option that may spring to mind is to overpay your mortgage. By paying more than the required mortgage repayment each month you erode the amount you owe quicker, reducing the interest you pay and potentially knocking years off your mortgage term.

A borrower with a £150,000 tracker mortgage will have seen their monthly repayments drop by nearly £400 since interest rates peaked. If they used this extra money to overpay their mortgage each month, and continued to overpay it by the same amount for the rest of the term, they could repay their loan 11 years early on a 25-year mortgage.

The pros and cons

While being mortgage free 11 years ahead of schedule might sound like a very tempting prospect, there are several things that need to be considered before you go down this route.

1)   Does your mortgage lender allow you to make overpayments or will you be penalised for doing so? There’s no point using your spare cash to pay extra off the mortgage each month if doing so will trigger penalty charges.

2)   It’s worth finding out if you can get your hands on the money again if you need to. Some mortgages enable people to borrow back money they’ve overpaid at the same rate. Others allow people to take payment holidays up to the amount they’ve overpaid. But on some deals, once the money’s been used to pay down the loan, the borrower can’t get it back without remortgaging.

3)   People are generally advised to repay debts with the highest interest rates first. So it might not make sense to prioritise making overpayments on your mortgage, if you have outstanding credit card or loan debt on which you’re paying double-digit interest.

4)   Since the credit crunch first struck, lenders have been increasing the size of the deposits or equity stakes people need in order to qualify for the most competitive mortgage rates. At the same time, house price falls mean people now have significantly less equity in their property than they did a year ago.

Making overpayments might be enough to reduce your loan-to-value ratio sufficiently to put you into a lower mortgage tier, saving a considerable amount on the rate you’ll pay when you come to remortgage.

For more information on this latter point, read The Confused.com Credit Crunch Guide to Remortgaging.