I am one of the lucky ones who decided to take out a five-year fixed-rate mortgage with Nationwide in December 2021 at an interest rate of 0.94 percent. I have three years and three months left.
In the previous four years I made overpayments totaling £19,000.
I no longer make overpayments because I believe that my money would be better off in a savings account given the current high interest rates.
Should I withdraw the £19,000 from the overpayment reserve and deposit a three year fixed rate bond instead? I could earn around six percent interest on the money and pay it back into my mortgage at the end of the term.
If I’ve done the math correctly, £19,000 accruing interest at six per cent over three years should come due at £22,629.30, meaning I’d be earning £3,629.30, or just over £100 a month .
Are you saving wisely? Our reader thinks he might be able to pay more money off his mortgage if he takes the money out, puts it into a high-interest savings contract, and then pays it back in with interest
Nationwide allows an annual overpayment of 10 per cent of the original loan, so in my case £25,000. Therefore the £22,629.30 would fall below this value and get the money back without penalty.
I understand that my monthly mortgage payments would increase, but they would certainly be less than £100 a month – and the extra money would pay off the mortgage balance.
I initially set the overpayment to shorten the term of the mortgage instead of increasing my monthly payments. This means I can maintain my monthly mortgage payments and easily extend the mortgage term again.
Are all the stars correct here, or am I missing something? DJ, via email
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David Hollingworth answers: With interest rates rising, the headlines are rightly focused on those borrowers who are accepting much higher interest rates than they are used to.
However, the full force of the interest rate hikes did not hit all borrowers, and you are a good example of someone who was lucky enough to secure medium-term coverage at the trough.
As you admit, a lot of this is a matter of timing. Nonetheless, you certainly made a good choice and your current deal suggests that you managed to strike at the most opportune moment.
It’s a good idea to think about how you can use the remaining three years of your affordable plan to your advantage
In fact, the increase in the key interest rate began immediately after your setting in December 2021 and increased at every meeting since then until it stopped in September this year.
It’s a good idea to think about how you can use the remaining three years of your affordable plan to your advantage.
Planning for when the current interest rate ends should help you transition to a higher interest rate environment, which is likely to continue. Even if interest rates fall again by then, it is unlikely that they will reach the extremely low levels of recent years.
It would often make sense to consider overpaying the mortgage every month in order to reduce the principal balance more quickly.
Some borrowers still prefer this approach to watch the mortgage expire, just as you have done in the past.
Mortgage Interest vs. Savings
However, the rapid rise in interest rates is causing mortgage payments to rise, as well as the amount savers can earn on the money they invest.
While overpaying on the mortgage usually exceeds the return on savings, it now seems more advantageous to save instead, as long as the interest on savings provides a better return than reducing the mortgage.
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Three-year fixed-interest savings bonds can be found at around six percent. Even if taxes were to be paid on the interest, this would still be a significant improvement over cutting repayments with a mortgage interest rate below 1 percent.
Like many lenders, Nationwide allows overpayments of up to 10 percent per year without incurring an early repayment fee.
But unlike other loans, the overpayments create an “overpayment reserve” and the borrower can decide whether they want to use this to reduce their monthly payments or whether they want to maintain the same payment level but shorten the term of the mortgage .
You chose the latter option, so the reserve is still intact.
Can you borrow the money back?
The big question here is whether you can withdraw the money you overpaid on your mortgage in cash to put into a savings account.
In the past, mortgage lenders’ reserve facilities functioned similarly to flexible mortgages, allowing funds to be “borrowed back.”
Some Nationwide customers may still have this loan repayment option, but these will be those with older mortgage accounts, typically those taken out before March 2010.
Even if you have held your mortgage for this period, switching to a new product will remove your access to these facilities.
Mortgage Maze: There is a lot for this reader to consider – including whether his bank will allow him to withdraw the overpaid money on his mortgage in cash
The overpayment reserve has built up as you have made overpayments over the last few years and remains in place unless you have decided to liquidate the reserve.
However, if, as you say, you have remortgaged in 2021, it is likely that the reserve will not be available for full repayment as a lump sum, but may only be used to finance underpayments or shorten the mortgage term.
If you underpay, the overpayment reserve would gradually be used up, causing the mortgage to increase.
The same mortgage interest rate would apply, so the principle of directing standard monthly mortgage payments into a savings account to achieve a higher after-tax return would still apply.
You can use the reserve for your monthly payments and deposit the money you normally pay to Nationwide each month into your high-paying savings account.
However, underpayment would be more of a trickle down effect and would impact your ability to secure a good fixed savings rate for a lump sum.
You also need to keep an eye on the best savings interest rates that allow regular deposits.
This will change your amounts slightly, but if you decide to proceed you can check with Nationwide to find out what your available overpayment reserve is and the process to activate underpayments.
GET AN ANSWER TO YOUR MORTGAGE QUESTION
David Hollingworth is This is Money’s mortgage expert and broker at L&C Mortgages – one of the UK’s leading specialists.
He’s ready to answer your home loan questions, whether you’re buying your first home, trying to remortgage amid interest rate chaos or planning further into the future.
If you would like to ask him a question about mortgages, email email@example.com with the subject line: Mortgage Help
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