Get it right and overpaying your mortgage can be a huge cash boost, because…
- You’ll be eating into the debt you’ve built up from buying a home, meaning you pay it off quicker.
- You don’t pay interest on the amount you overpay.
- The money you save on interest often beats the returns possible by putting it in savings, given savings rates are currently so pitiful.
Most lenders allow you to pay 10% of your mortgage balance as an overpayment per year if you’re still in your introductory fixed, tracker or discount period.
If you’re beyond that intro deal and paying your lender’s standard variable rate (SVR), you can usually overpay by as much as you want. But many SVRs are expensive, so if on one it’s best to check if you can save by remortgaging advises Martin Lewis moneysavirngexpert.com, rather than only overpaying.
However, the 10% rule is not universal. Some lenders punish those who try to overpay.
Fees for paying too much are typically between 1% and 5% of the amount overpaid depending on your mortgage, though the fee you pay usually decreases the closer you are to the end of the fixed or discount period. The amount you pay as a penalty will vary between mortgage deals.
Some may levy a flat rate of 5% regardless of when you may make any overpayment while others – particularly fixes for 5 yrs or longer – will often charge the same percentage on your overpayment that equates to the number of years left on your loan.
Say you’ve a 5-yr fix on a £100,000 mortgage and decide to overpay a lump sum two years into the deal. However, instead of sticking to the 10pc (£10,000) limit free of penalty, you overpay £15,000 instead. This means you must pay a 3% penalty on the extra £5,000 overpayment – £150. However, this ‘percentage left on loan’ rule of thumb is very rough so always double-check with your lender.
The reason for such harsh penalties is because lenders want you to stick with them once the cheap rate ends and because they’ve also budgeted to earn a certain amount of interest from you during the mortgage deal, and overpaying means they’ll get less.
How much will overpaying your mortgage save you?
(1) The mortgage has a 25-year-term.
(2) Savings are pre tax and stop as soon as the mortgage is paid off to make the comparison fair.