Should You Be Overpaying Your Mortgage?
Overpaying your mortgage can be a good financial decision depending on your individual circumstances.
Should You Be Overpaying Your Mortgage?
Overpaying your mortgage can be a good financial decision depending on your individual circumstances. Mortgage overpayments are at a 20-year high in the UK, as a result of interest rate hikes. While the prospect of reducing interest payments and achieving homeownership freedom is appealing, it's crucial to strike a balance between long-term financial goals and immediate financial needs. In this guide, we explore key questions to ask yourself before deciding to overpay your mortgage, addressing everything from the terms of your current mortgage deal to the size of your emergency fund.
What are your financial goals?
Clarify your short, medium and long-term financial objectives. Assess whether overpaying your mortgage aligns with these goals or if there are alternative investments or debt repayments that may be more strategically beneficial.
Do you have any upcoming financial goals or major expenses that may require access to liquid funds? Overpaying your mortgage reduces liquidity, so assess if this aligns with your future financial needs.
On the one hand, paying off your mortgage faster can provide a sense of financial security and freedom. You won't have to allocate as much of your income to housing costs. But, money used to overpay the mortgage becomes less liquid. It's tied up in the property, and accessing it might be challenging if you need cash for emergencies or other investments.
If you’re close to retirement or need the money for financial objectives, overpaying your mortgage may not be your priority.
Could you save money and shorten the term of your mortgage?
If you have a mortgage with a relatively high interest rate, overpaying can make sense. As you are repaying your outstanding balance, your interest payments go down. However, if your mortgage interest rate is very low, you may want to make your money work harder for you by investing your extra money elsewhere.
Overpaying allows you to potentially shorten the term of your mortgage, helping you become mortgage-free sooner. This can save you money in the long run.
How good is your current mortgage deal?
Evaluate the interest rate, terms, and conditions of your existing mortgage. Consider whether overpaying aligns with the terms of your current deal and if any early repayment charges or penalties apply.
For example, if you’re on your lender’s standard variable rate, there’s normally no limit. But most fixed-rate mortgages and some tracker mortgages have an annual overpayment limit of 10% of your total outstanding mortgage balance.
What is the opportunity cost of overpaying?
You can compare the potential return on investment from overpaying your mortgage with other investment options, especially if you believe you can achieve a higher return by saving or investing in the stock market (even if not guaranteed here). If your mortgage rate is around the same, or higher than your savings rate, then it makes sense to overpay.
Do you have an emergency fund?
Make sure you have an emergency fund / freedom fund for rainy days before committing to overpaying your mortgage. This fund can provide a financial safety net in case of unexpected expenses or income fluctuations.
Financial experts often recommend having three to six months' worth of living expenses in your emergency fund, while this may seem like a significant amount, do your best to build up a fund that can cover unforeseen circumstances!
Do you have high interest debts?
If you have other outstanding debts with higher interest rates, such as credit cards or overdrafts. Prioritise paying off these higher-interest debts before focusing on mortgage overpayments.
Can you consistently afford overpayments?
It’s also a good idea to review your monthly budget and income stability. If your income is variable, committing to higher mortgage payments may be challenging during leaner months.
How to get started?
Seek advice from a financial professional / mortgage broker who can provide personalised guidance based on your unique financial situation and goals. To get a first idea you can also start using an online calculator and run your numbers.
Remember, overpaying your mortgage may not be the right choice for everyone. You should weigh the pros and cons and consult with a financial advisor if needed.