Should I overpay mortgage?

[Lizthelettuce]

Hi, I’m not the most financially literate, so just checking my thinking with you - hope that’s ok!

I bought my first home in June, I borrowed £160,000 at an interest rate of 2.65% fixed for 5 years.

I have been putting an extra £100 a month aside, with the intention of overpaying my mortgage by this amount, once I’m sure I can afford it.

However, I have read that you should only overpay the mortgage if the interest rate is higher than that of a savings account?

I can get a 1-year fixed ISA with a rate of around 3%. So, does this mean that I would be better off paying my monthly £100 extra into this ISA, and continue to do so far the next 5 years, so long as the interest rate stays above 2.65%?

Then, when my mortgage fixed rate comes to an end, I use the lump sum to overpay at that point and then hopefully get a cheaper deal when I remortgage.

I hope this makes financial sense?

You pay off the capital with a mortage so that will reduce the amount you would have to pay each year of interest as its compound interest. I.e. you pay interest on the same pound every year you have the mortage. If you pay off that pound then there is no interest to pay on that pound.
We are going to overpay as much as possible. The quicker we pay off the capital, the less money we have to pay off overall. There are some mortagr calculators on excel which are on the Web- put some figures in and see what difference it makes for you.

Okay, thank you. So basically the sooner I pay off the debt the better? And so I would be better off overpaying the mortgage sooner rather than later?

On a fixed rate isa you usually put in a lump sum and fix that for one year, I don’t know of any fixed rate isas that let you drip feed 100 per month into it.
As far as I know a basic rate tax payer can earn £1000 in interest without paying tax so you can look at non isa products. Check out regular savings products on MoneySavingExpert

I pressed send too soon.
If after tax (or tax free) you are earning more on savings than than the mortgage rate you are better to save up and pay off at the end of the fixed rate. If you are earning less then pay it off the mortgage.
Things to consider, would you dip into savings so it wouldn’t end up getting paid off the mortgage? On the other hand if you pay it off your mortgage each month but then need it back it isn’t so easy to get it.

Before you overpay on the mortgage make sure you have some savings behind you.

Yes Yes Yes, always get the mortgage paid off as soon as possible. Overpay every spare penny you can. The freedom from owning your own property is amazing!

I meant to say, get your emergency fund sorted first! See Dave Ramsey for his Baby Steps plan.

On my mortgage, the interest is calculated daily. So: if your mortgage is £200, say, and you pay £2 today, tomorrow the bank calculates the interest for £198, because you’ve already paid something. And so on every day.

So even if you save those £2 in an account that pays you 3% interest, that’s all there is, some interest on a tiny amount. Whereas if you pay £2 into an account who’s interest is 1.5% on £200, you’re chipping away at the larger amount iyswim.

Now, the interest rate you fixed at is low. When it comes to the end of your fixed rate, I very very much doubt your interest rate will be anywhere near the 2.65% you have now. As you’ve noticed, they rose to over 6%. So what you want to do is have an amount as small as possible for when the next term kicks in.
HTH

Another vote for paying down mortgage. It reaps bigger long term savings on the margins you're looking at. if the savings account were say, 8%, then the savings account might just about be a better bet than paying down mortgage. Sometimes it helps to set up a spreadsheet to see how the net savings work over time, with each option.

Fairly sure you are slightly better off with the ISA option. But only while the interest rate is higher than your mortgage - if the 3% rate lapses after a year take that whole lump sum then and put into mortgage.
In the example above, if your mortgage is £200 and you have £2, and put it in the mortgage, you are then just paying interest on £198. You save the £2+interest you would have paid (£2 + 2.65% of this).
If you put that £2 in an ISA you save £2+3%. Stick all that into your mortgage at the end of the year and you have saved slightly more.
Sums are small but it adds up either way. Compound interest works on savings accounts too.
Difference is minimal in amounts but providing you DO use all the saved money to pile into your mortgage at the end of the period, you are slightly better off and can over pay slightly more of your mortgage than the £2+2.65%.

Unless I have misunderstood for a number of years this is what I used to do! Now it all goes in mortgage as haven't been able to get a decent savings ISA for years.

Where did you find one at 3%?

See this article: www.moneysavingexpert.com/mortgages/mortgages-vs-savings/#:~:text=If%20you%20can%20get%20a,it%20makes%20sense%20to%20overpay.

Before you start making overpayments, check that there aren't early redemption penalties on the mortgage. I think most allow you to repay a certain amount each year

For most people, I think its really sensible to overpay mortgage if you can. But ensure you have a rainy day fund first

I overpay as much as I can every year at the start of the year (I save up the year before to do this) and am hoping to pay off mortgage by the end of the current fixed term. Rates haven't been great for saving so it's always made sense until now but going forward when I look at the interest on savings, tax from that and then the fee of remortgaging in 5 years when rates may be higher it makes financial sense. I try and get enough to pay the amount you can do without getting a penalty, probably can't continue that realistically from now on but something to be aware of. Our mortgage companies have always been really helpful about talking through options with us around whether overpayment reduce monthly payments or mortgage period so may be worth a chat if you decide to overpay.

Thanks so much everyone, you’ve been so helpful!

@Rosti1981 I just checked and actually it’s not an ISA it’s he HSBC bonus saving account.