Interest rates are on the up. Quite rightly, anyone with mortgage is concerned about affordability. If you have extra money to spare each month, should you overpay your mortgage?
This would reduce both the mortgage amount and the overall mortgage term, thereby reducing the interest you would pay overall. It would also reduce your loan to value; meaning you may be able to get a better deal next time around. Is this the right approach for you in the current climate? Well, it depends.
Saving v overpaying your mortgage
Whilst there is a convincing argument for overpaying your mortgage, putting your extra cash into your mortgage would tie up your capital. With inflation on the rise, some would argue that having liquid cash available was more important.
There are pros and cons for both approaches. This depends on the mortgage deal you are currently on and how long it is fixed. Those with a low, fixed interest rate may be better off saving – especially if their rate was fixed for a long time.
You are more likely to be on a higher rate if you took out a mortgage recently. Overpaying would therefore likely be the better option. If you were lucky enough to fix your mortgage before interest rates went up, it may be wiser to save the money in a savings vehicle with a higher potential rate of return.
Should you use your savings to pay off your debts?
If your other debts are costing you more in interest than your mortgage, it would make sense to pay them off first before you overpay your mortgage. For example, paying off a credit card debt with an interest rate of over 15% would make much more sense than paying off mortgage debt with an interest rate of 4%.
Although mortgage rates are on the up, mortgages are still likely to remain the cheapest form of credit. However, stress-testing your mortgage would be a financially astute thing to consider.
The best way to do this would be to picture your mortgage on a particular interest rate. Now work out what your monthly repayments would be on that rate. This is a useful way of gauging the affordability of your mortgage at a future given interest rate. Here is a useful Mortgage calculator from Money Saving Expert.
Alternatives to overpaying your mortgage
Your priority before considering overpaying your mortgage should be building an emergency cash surplus. This should be around 6 months net income. Read our article on dealing with the cost of living crisis.
If you decided against repaying your mortgage you could consider saving or investing for the longer term. The advantage here is that you could always use your savings to reduce your mortgage at a future date if it suited you. Alternatively, you could consider putting the extra cash into your pension. Remember however that money invested in a pension would be inaccessible until your retirement age.
It comes down to the risk you are willing to take. If you are worried about budgeting when interest rates rise, overpaying would be the way forward. If affordable, a clever combination of all options may be the best option for most people. You wouldn’t want to put all your eggs in one basket, would you?