Overpay or save

[Uncomplicated]

I’m just thinking ahead to what mortgage interests rates will be like in 3.5 years when I am due to renew and how I can prepare for that time. Do you think it is better to overpay on my mortgage between now and then, or save the equivalent in a separate bank account so that the money will be available to use, as an emergency fund in case I couldn’t otherwise afford mortgage payments for any reason one month

I’m certainly not a financial advisor but I would be paying whatever you can into your mortgage.

it’s what we’ve done when we’ve been able to and we’re now mortgage free.

There are numerous ways to look at this but in your specific situation what Jumps out at me is this -

your timeframe of 3.5 years. Thus us a very short window of time and investing generally should involve longer length to be able to ride out market waves up and downs. So investing it is I think not good for this timeframe.

when it comes to savings the question is whether the interest rate you can get on a drip in type regular saver is higher than the mortgage interest rate. I doubt it unless the excess amount you’re talking of is about £300 monthly or less In which case there are some regular savers with 3.5% interest. If you’re feeding in more a month you may find mortgage overpayments most interest efficient.

plus remember that overpayments reduce not just capital but also the interest you pay massively.

so in your shoes - providing you’ve got a rainy fund set aside - I’d overpay to increase equity in house.

(Wr are planning an upsize into pricier area in 3.5 years and are massively overpaying currently and watching the equity rise is very satisfying)

it isn't just about the interest rate but also about inflation. Inflation is currently high and likely to get worse. This, in its most basic terms means that money in a savings account will buy less in one year than it will in the next.

I'd overpay.

Six months money in a separate bank account as an emergencies fund and then overpay on the mortgage.

Do you have any savings at the moment to cover you for however long you think it might take to find a new job and get the first month's pay should you lose your job, plus emergency house repairs, plus a replacement car?

If you overpay on your mortgage, can you draw back the overpaid amounts?

Is the interest rate on your mortgage higher or lower than the interest you can get on your savings?

Are you paying enough into your pension?

All of these factors would influence my decision.

I have done a mixture of these over the years and expect to have three years left on the mortgage when my current deal ends and I have to remortgage next. Currently I have savings to cover me for a while if I lose my job, although that has not always been the case. However, I get a much better deal if I pay more into my pension, so nowadays I focus on that.

Overpay.

Money saved will lose value over time because of inflation (unless you get a truly fantastic interest rate or are rich enough to have a Swiss bank account).

Money used to reduce the capital on your mortgage will save you interest on the amount outstanding and increase your equity by more than the amount you pay off. It really makes a surprising difference.

A smaller amount outstanding will mean you'll need a lower LTV mortgage when you next buy, so may enable you to access better mortgage deals.

You need to compare the relative interest rates.
If you can beat your mortgage interest rate with savings, you will be better off saving and paying the money you've saved to your mortgage later.

That will also give you the flexibility if you need the money for something else, eg car replacement, home improvements.
This may also be the better option if you have a limit on the amount you can overpay without penalty (usually 10% each year).

However, if you have savings and need to claim universal credit, you will be expected to live off the savings until they fall below a certain amount, so in that case, you would have been better off overpaying the mortgage.

For the past 10/15 years you would probably have been better off saving separately, but now interest rates are rising, unless savings rates increase at the same rates as mortgage rates, the balance is probably going to tip over into overpaying the mortgage.

For mortgage overpayments, inflation is irrelevant because the amount of your mortgage reduces due to inflation at the same rate as the buying power of your savings. Its a straight comparison of relative interest rates.

I agree - if savings interest rate is lower than mortgage interest rate (which it will be at the minute) then pay off the mortgage quicker.

Inflation makes no difference other than your money will be worth less this time next year.

Thanks everyone. Great advice

Can I ask a related question! If you have say £160k on your mortgage and £10k in savings, when you're fixed rate is up can you re-agree your mortgage terms for say £150k and ? I suppose that's what an overpayment is actually. This is a silly question isn't it!

Well your right in simple terms.

But you can also use the overpayment to reduce the term instead of the sum.

So say you are supposed to owe 160k at the end of the term and overpaying means you only owe 150k

If mortgage rates are the same (they won’t be but for simplicity) - you could choose to pay a lower amount monthly ie. 750 a month for the remaining years

Or you can choose to pay the higher amount for a shorter period ie. 800 a month for less years.

Money saving expert has a good article on overpayments and it being applied to term vs payment amount.