Overpaying Your Mortgage: Is it Worth it?
Making mortgage overpayments can help you save money in interest and clear your mortgage sooner. But first you should check if there are limits and charges on how much you can overpay and be confident that overpaying your mortgage is right for you.
If you’re considering overpaying on your mortgage, it’s probably because you want to reduce how much interest you pay and ultimately bring forward the day you’re mortgage-free.
But before paying extra on your mortgage, be sure that it’s the best use of the funds available for you. You’ll also want to avoid any charges that your lender might impose for overpaying.
Read on to learn more about the potential benefits of overpaying your mortgage as well as the things you need to be aware of.
What is a mortgage overpayment?
When you overpay on your mortgage, you voluntarily pay more than the minimum monthly repayment amount set by your lender.
You may have the option of overpaying with a one-off or occasional lump sum, or with regular payments on top of your monthly payment.
What you can and can’t do might vary between mortgages and lenders, so check any restrictions in your agreement before going ahead with overpayments.
What are the benefits of overpaying your mortgage?
Assuming you have the extra funds to hand, mortgage overpayments can be a way to clear your debt sooner, while saving money in interest.
Here’s how that could work in your favour:
- You could be mortgage-free sooner. As you will pay off more of the money you originally borrowed quicker than you first calculated, you could pay off your mortgage ahead of time.
- You could reduce how much interest you pay overall. By shortening how long it takes to pay off your mortgage, you’ll likely pay less total interest over the lifetime of the mortgage.
- You will be charged interest on a lower amount. As the amount you pay monthly in interest is calculated on the outstanding sum of the loan, if you overpay now and interest rates increase, the interest part of your future mortgage repayments will be calculated on a smaller amount.
- Your house equity could increase sooner. If you pay off more of the capital quicker, your loan-to-value (LTV) ratio will reduce. This could give you access to more competitive mortgage rates if you remortgage to another deal later on.
- It can offer you more flexibility. If it’s an option, you may be able to make overpayments as and when you want to or regularly, especially if you manage your mortgage online or through an app. This can let you overpay in a way that suits you, or not at all when it doesn’t.
How much can you save by overpaying your mortgage?
Overpayments could help save borrowers thousands of pounds in interest over the lifetime of a mortgage. How much you might save depends on variables such as how much you’re looking to overpay and the interest rate of your mortgage.
The example below is an estimate of how much money overpayments might save a borrower over time.
Say you owe £100,000 on your mortgage and are paying an interest rate of 3%, with 20 years left of your mortgage term. Assuming your interest rate stays the same and you keep within your lender’s overpayment limits:
- An extra £200 as a regular monthly payment could save you £11,596 in interest over the lifetime of your mortgage and cut the length of time before your mortgage is paid off by six years and seven months.
- An overpayment of £100 a month could save £7,087 in interest over the lifetime of your mortgage and reduce the time until you’re mortgage-free by three years and 11 months.
- Make a lump sum payment of £20,000 and you could save £13,760 in interest and clear your mortgage five years sooner.
To work out the possible effect of making overpayments on your mortgage, try our mortgage overpayment calculator.
When you might consider making mortgage overpayments
You may be looking to pay off a large chunk of your mortgage after inheriting money or selling an asset. Or you could want to increase your monthly repayments because you’ve had a pay rise or a bonus, or are making savings elsewhere, perhaps through securing a lower mortgage interest rate.
When it comes to making overpayments, timing is important. If your mortgage provider allows overpayments, find out when the interest on your loan is calculated. If it’s daily or weekly, you could make overpayments whenever you like without worrying too much about timing, but the sooner the better.
But if interest is calculated monthly, quarterly or annually, you might want to be more strategic and aim to make your overpayments ahead of your interest being calculated. This may save you money because it will be calculated on a lower loan amount. It’s always worth checking how it works with your lender directly before making any decisions on when to overpay.
What to think about before making mortgage overpayments
There are some key questions that you should consider carefully before overpaying a mortgage.
Can you overpay your mortgage?
Not all lenders or mortgages allow overpayments, so you’ll need to check this out first. Your mortgage agreement or a quick call to your lender should confirm this either way.
How much can you overpay on your mortgage?
If overpayments are allowed, it’s then important to find out if there’s a limit to how much extra you can pay. Typically you might be allowed to overpay by up to 10% of your total outstanding debt each year, but your mortgage agreement or lender will confirm the amount.
Crucially, if you go above the overpayment limit, you will have to pay an early repayment charge (ERC) – this tends to be somewhere between 1% and 5% of the amount you paid above and beyond the limit.
Can you afford to overpay on your mortgage?
Before overpaying on your mortgage, it’s vital to make sure you’re not overstretching yourself financially and have a suitable emergency fund saved up to cover the unexpected.
Making overpayments on most standard mortgages isn’t the same as putting money into an easy access bank account. Once you have overpaid, you can’t usually get a refund or access those funds again, unless you remortgage.
One exception might be if you have a flexible type of mortgage, such as an offset mortgage, where you can overpay but also take the funds back again penalty-free if you need to.
Should you pay off other debts first?
If you have other potentially more expensive debts, such as credit cards or personal loans, you might want to consider trying to clear these before overpaying on your mortgage. This is likely to be a good strategy if you have other debt that charges a higher rate of interest than your mortgage.
» MORE: Paying off a loan early
Could the money work harder for you elsewhere?
If you can find a savings account that pays a higher rate of interest than the rate you’re paying on your mortgage, putting your money into savings might be the more sensible option financially. Investing the money might be another option to consider, or if you’re not already contributing into a pension, or only making minimal contributions, you might want to explore this too.
» COMPARE: Private pension providers
Is it better to overpay your mortgage monthly or by lump sum?
Making one large lump sum payment instead of gradually overpaying each month will help lower your mortgage balance faster and save you more in interest. It might also be an option worth considering if you’ve received an unexpected windfall and already have sufficient savings set aside that you can access easily and be used to cover emergencies.
On other hand, smaller regular overpayments tend to be easier to absorb into your monthly budget, and are likely to be a better option if you’re not comfortable committing all of your funds to overpaying in one go.
What do you want your overpayments to achieve?
Before you make overpayments, it’s important to tell your lender what your goal is. For example, if you’re looking to shorten your mortgage term on a repayment mortgage, you will want to ask that it keeps your regular monthly payments the same going forward, so you are overpaying.
Otherwise, your lender may reduce your monthly payments in line with the reduced loan amount and your mortgage term will stay the same.
Bear in mind that your lender’s terms and how much you’re looking to overpay might affect what options are open to you.
Is it a good idea to overpay your mortgage?
Overpaying won’t be a good option for everyone. While there are obvious advantages to getting your mortgage loan cleared as fast as possible when you have extra money to hand, it needs to be affordable and right for your financial circumstances.
To ensure you’re making the right choice, you may want to talk to a mortgage adviser to run through your options.
How to overpay your mortgage
You should always get in touch with your lender before starting to make mortgage overpayments. That way you can explain that you’re looking to overpay to reduce your term, not your monthly payments, if that’s your goal.
You can also talk through how often you are looking to overpay, and your options for paying. Once your lender is aware of your plans, you might simply be able to amend your monthly direct debit as and when you want, or make a bank transfer if you want to pay a lump sum.
Crucially, talking to your lender can help you to avoid exceeding any overpayment limits on your mortgage. Otherwise, you might cancel out any savings you make with a potential early repayment charge.
Image source: Getty Images
Holly champions clear, jargon-free writing. She’s been creating finance content for leading organisations for over 10 years. Read more
Tim draws on 20 years’ experience at Moneyfacts, Virgin Money and Future to pen articles that always put consumers’ interests first. He has particular expertise in mortgages, pensions and savings. Read more