Paying off your mortgage early

Paying off your mortgage early has several advantages, the most significant being reducing the total interest paid. Here are some suggestions to minimise your interest rate, reduce the amount of interest you pay and pay off your mortgage faster:

• Pay more than the required mortgage payment every month – check that your mortgage term permits overpayments. Some mortgages restrict overpayments and may charge fees on overpayments.
• Make sure you choose a mortgage with low early redemption fees (early settlement fees).
• When your fixed-rate mortgage term ends, shop around for a lower interest rate and consider re-mortgaging for more favourable terms.
• Consider taking a shorter term on the mortgage, such as taking a 20 year mortgage rather than 25 years. You can save interest over the life of the mortgage by decreasing the repayment period.
• Maximise your house deposit as you may be able to secure a lower interest rate, with a bigger deposit. Financial institutions view borrowers with larger deposits as less risky.
• Rent a room scheme – consider renting out a spare room for tax-free income.

The maths of paying more

For those of you who are maths and figure-orientated, the chart below illustrates the savings you can make over the life of a mortgage by paying a little more every month.

During periods of low interest, the potential savings from making extra mortgage payments are not that high. In such instances, saving or investing the extra payment elsewhere may be more beneficial. Consider saving the money in a savings account paying a higher interest rate than you are paying on your mortgage. Alternatively, investing in the stock market may provide a better rate of return. Remember that stock values can fluctuate so there is always a level of risk. Decide on your level of risk-taking or risk aversion and go with what you feel comfortable with.

When mortgage interest rates are high, paying extra every month if you can afford to, is a bit of a no-brainer, especially given the impact of compound interest on debt.

Illustration

In the illustrations below, increasing the mortgage payment by £139 per month from £1,036 to £1,175 saves £20,785 in interest over the life of the mortgage. This pays off the mortgage in 20.5 years rather than 25 years.

Mortgage payments are allocated between the monthly interest charge and the capital balance, or original loan amount. Overpayments are allocated against the capital reducing the outstanding balance. As the capital balance reduces, so does the interest charged on the capital. The compounding effect of this over time is that increasingly, more of the mortgage payment is allocated against the capital balance.

In our shop you’ll find a mortgage payment calculator that allows you to compare different mortgage amounts and interest rates. This is handy for comparing several mortgage offers from different providers. You can also compare the interest savings and reduction in repayment time from paying a little extra every month.

Rent a room scheme – earn money from your home

Renting out a spare room allows you to earn tax-free income from your home, providing extra money to cover the mortgage and other home running costs. HMRC allows you to earn up to £7,500 per annum tax-free from renting out a furnished room in your home. Any income above the £7,500 allowance is taxable and must be declared on an annual self assessment tax return. You can register for self assessment via your HMRC personal and business tax account. If you don’t have a personal tax account, you can set one up using this link:

Personal tax account: sign in or set up – GOV.UK (www.gov.uk)