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Should you use your savings to overpay your mortgage?

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An estimated six million people became “accidental savers” during the pandemic, according to LCP research. With interest rates at historic lows, deciding on the best place to put that money might be difficult.

Removing the burden of mortgage debt will certainly be tempting, but so too is the possibility of investment gains. Before you decide, there are several questions you’ll need to ask yourself and consequences you’ll need to consider.

Use your savings to improve your financial stability first

Your mortgage will likely be your single largest financial responsibility. The thought of lowering or even clearing that debt will be very tempting but there might be better uses for your savings. This will depend on your level of financial stability.

There are three questions you should ask yourself before you consider overpaying your mortgage:

  • Do you have an emergency fund?
  • Do you have other, higher-interest debt?
  • Would your money be better off in a pension or other investment?

Build an emergency fund

As one of the UK’s six million “accidental” coronavirus savers, you’ll also be aware that for others the last twelve months have been a financial struggle. The importance of a rainy day fund has never been clearer than during the pandemic, so take this opportunity to make sure you have one in place.

Ideally, it should comprise between three- and six-months’ worth of household spending. Holding it in cash means it will be readily available, should you need to access it in an emergency.

Be wary of holding too much in cash, though, as inflation could see the value of your fund diminish in real terms.

Pay off high-interest debt

If you have high-interest debt like credit cards, look to pay these off first, saving yourself money in the long run.

Clearing high-interest debt frees you up to use more of your income to pay your future self, by increasing pension contributions or investments, for example, or possibly by overpaying your mortgage.

Consider all your options

There is no “right” choice and the best option for you might not be advisable for someone else.

If you already have an emergency fund in place, you have paid off your high-interest debt, and you still have considerable savings, you’ll need to think about your next move carefully.

Successful investment means managing risk versus reward

Investing isn’t right for everyone but if you have a long-term goal in mind, using your accidental savings to invest now could benefit you in the future.

At Hartsfield, we get to know you and your circumstances, understanding your investment goals and your capacity for loss. This helps us to build a diversified portfolio aligned to your aspirations that also spreads the risk that your funds are exposed to.

Whilst daily rises and falls should be expected, the general trend of the stock market is an upward one. A long-term investment could generate returns to supplement your income in retirement or be used to pay off remaining mortgage debt in the future.

There are pros and cons to using a lump sum to reduce your mortgage debt

It could improve your emotional wellbeing

Having debt hanging over you – especially the potentially large debt of a mortgage – can be stressful. The thought of being rid of that debt, on the other hand, will be emotionally freeing.

Financial motivators are hugely important but be sure to factor your emotional wellbeing into your decision too.

You’ll need to calculate your potential saving

Before you decide if overpaying your mortgage is right for you, you’ll need to calculate how much you will save. Online calculators can help you do this.

You can use the Nationwide Mortgage Overpayment Calculator to calculate the amount of interest you will save and the length of your new term once an overpayment is made.

A £10,000 overpayment on a current balance of £100,000, for example, could result in:

  • An interest saving of £2,088.85
  • A term reduction of one year and one month.

This is based on a 2% mortgage with a ten-year term remaining.

Factor in early repayment charges (ERCs)

You’ll also need to consider the ERCs that might apply.

Your provider could limit the amount you can overpay on your mortgage, making you liable for a charge if you exceed a certain limit – for example, if you overpay more than 5% of your remaining balance in one go.

You’ll need to factor this into your calculations to ensure that your savings are used in the best way possible. If your planned overpayment attracts ERCs large enough to counter the benefits of the payment, your money will be better off elsewhere.

You could be better off in retirement

If your calculations suggest you will be better off making a large overpayment, this could allow you to become debt-free much earlier.

Entering retirement without mortgage debt could help you to feel more in control and have a positive impact on your emotional wellbeing. Financially, it means that all your pension income can go towards achieving your goals, providing you with the retirement lifestyle you dream of.

Get in touch

With interest rates at an all-time low, holding too much money in cash might not be the best idea. You want your emergency fund to be easily accessible, but don’t hold more than you need to as inflation could mean it loses value in real terms.

Whether you use your savings to invest for the future or to pay off mortgage debt now will depend on your personal circumstances. The best option will be different for everyone and Hartsfield Planning can help you decide on the right choice for you.

Please get in touch and find out how our team of expert financial planners can help.

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