How Do Offset Mortgages Work?

Payment reduction

With payment reduction, your monthly interest payments depend on your net balance.

As we explained earlier, with an offset mortgage interest is charged on your net balance – i.e. the amount left over after the money in your linked savings account is deducted from the outstanding mortgage balance. This means that, if you have savings in your linked account, your interest payments and therefore your overall monthly payments will be less than they would be on a normal mortgage with no linked savings account.

Your mortgage term won’t be affected with a payment reduction offset.

Both repayment and interest-only offsets are available on a payment reduction basis.

Term reduction

With term reduction mortgages, the interest owed is also calculated on the net balance – i.e. the amount left over after the money in your linked savings account is deducted from the outstanding mortgage balance.

The main difference between a term reduction and payment reduction offset is that with term reduction, you continue making the same monthly payments that you would make if you had no offset savings account and the interest was worked out on the total outstanding mortgage balance. This effectively means you make overpayments which can go towards your outstanding mortgage balance. You pay off your mortgage more quickly, thereby reducing the overall term.

What’s more, by reducing the term over which interest can be charged, you save yourself even more in interest payments over the full term of the mortgage.

Repayment offsets are available on a term reduction basis.

Example

Here are 2 examples of the most common offset arrangements. Please note these examples are generic, your own situation may be more complex.  We suggest you talk to an adviser to see how an offset facility can best help you and your situation.

Interest-only mortgage with payment reduction

• You take out a 25 year, £250,000 interest-only mortgage with a 1.99% interest rate
• If this was a normal mortgage and you had no offset savings account, the lender would charge interest on the total outstanding mortgage balance
  • Your monthly payments in this situation would be: £415
• If this was an interest-only offset with payment reduction and you had £50,000 in the linked savings account, the lender would charge interest on the net balance:
  • The lender would charge interest on: £250,000 – £50,000 = £200,000
  • Your monthly payments in this situation would be: £332
  • This means you could save £83 per month for 25 years, which is a total of £24,900

Repayment mortgage with term reduction

• You take out a 25 year, £250,000 repayment mortgage with a 1.99% interest rate
• If this was a normal mortgage and you had no offset savings account, the lender would charge interest on the total outstanding mortgage balance
  • Your monthly payment in this situation would be: £1,058 for the full 25 years
• If this was a repayment offset with term reduction and you had £50,000 in the linked savings account, the lender would charge interest on the net balance:
  • The lender would charge interest on: £250,000 – £50,000 = £200,000
  • Your monthly payment in this situation would remain at £1,058, however the mortgage would be cleared in 22 years and 10 months
  • This means your mortgage could be cleared 2 years and 2 months early and you could save £27,508