With interest rates stuck at record lows despite surging inflation, the chances of getting a savings rate that allows your money to grow in real (inflation-adjusted) terms are almost impossible. Only basic-rate taxpayers who are prepared to lock up their money for a long time can expect to see any real growth. Even tax-free individual savings accounts (Isas) offer fairly miserable returns. But there is still one relatively straightforward way you can get your savings to earn their keep: get an offset mortgage.
A recent survey by Yorkshire Building Society revealed that only 7% of borrowers considered an offset product when taking out their mortgage. Yet an offset mortgage can be beneficial for many borrowers. With this type of mortgage you get a savings account that is linked to your loan. Any money you then put in that account is offset against your mortgage, reducing the amount of debt you are paying interest on. For example, if you have a £200,000 mortgage but put £50,000 in the linked savings account, you will only be charged interest on £150,000 of your loan. But your savings remain at your disposal and you can withdraw money at any time.
This means your savings are effectively earning the interest rate on your mortgage (as this is what you are saving). The best part is that you aren’t liable to any tax – so once you’ve maxed out your Isa allowance, this is a great form of tax-efficient savings. Moreover, an offset can save you a lot of money. For example, if you had a £200,000 mortgage with a rate of 2.49% and you offset £50,000 against the loan, you would clear your mortgage three years and two months early and save £10,112 in interest, according to Largemortgage-loans.com, reported in The Sunday Times.
But you don’t need to have a huge sum to make an offset mortgage work. If you can afford to save just a little each month, this can still make a big difference. If you have a £200,000 mortgage at a rate of 3.5% and you put aside £100 each month, you’d knock £15,123 off your interest bill, pay off the mortgage three and a half years early, and have a healthy savings balance at the end of the mortgage, says Emma Lunn on Lovemoney.com.
The one drawback to offsets used to be that the interest rate was slightly higher than on standard mortgages, as lenders considered it a premium product. But the gap has now narrowed significantly, with the average offset mortgage offering a rate that is just 0.36 percentage points more than a standard mortgage. Yorkshire Building Society, FirstDirect and Woolwich all offer offset mortgages.