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Martin Lewis on mortgage rates: 'Millions can save £10,000s overpaying their mortgage – but others should save instead. Which are you?'

Mortgage rates are rocketing. A year ago you could fix at just under 1%, now the cheapest mainstream deals are 4.95% for two years, 4.62% for five years, and 4.85% for 10 years. That 4% point-ish rise in mortgage rates equates to around £200 a month more (£2,400 a year) per £100,000 of mortgage debt.

This article was first written by (MSE) founder Martin Lewis for our weekly email on 5 October 2022. It was updated by the MSE Team on 6 October 2022.

To ensure your rates are as low as possible, see our mortgage turmoil help info and use our mortgage best buys tool.

Today though, I want to focus on a specific issue many are asking me about. Should those still with savings use them to reduce their mortgage debt? For some, yes, but like a troop of baboons, there are plenty of big buts...

KEY RULE: Only overpay if your mortgage rate is higher than the rate you'd earn saving

For example, £10,000 in savings at 2% earns £200 for the year, yet use it to overpay a 3% mortgage and it reduces costs by £300 for the year. Effectively overpaying is tax-free 'saving' at the mortgage rate, so if the rate's higher than savings (after tax) it wins.

  • Recent mortgages: Rates are high, so it's here the benefit of overpaying is most likely.

  • Older fixes: Your rate is likely still cheap, possibly below 2%, while the top savings rates are 2.5% easy-access or 4.15% for a year's fix. So, saving is likely to win. If so, put the money away UNTIL your mortgage fix ends (timing fixed savings to end then too is useful) and at that point, consider using it towards reducing your new likely-much-higher-rate mortgage.
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New. Boosted mortgage overpayment calculator – £100 a month overpaid can save £20,000+ interest

Overpaying isn't just a short-term gain, it reduces what you owe, so less interest compounds. The benefit can be huge.

For example, our Mortgage overpayment calculator shows on a £150,000 mortgage at 5% (25-year term), overpay £100 monthly and you'd reduce interest by £23,000 and repay four years and six months earlier. And we've just added a new function to the calculator, so you can compare the return on overpaying, versus saving.

The gain isn't just theoretical - Pauline tweeted me a while back: "@MartinSLewis I overpaid my mortgage each month and saved 10 years in payments and £30,000 in interest. Thank you for your advice."

If it looks like you should overpay... do these three checks

Even if the maths looks a winner...

  1. Do you have other more expensive debts (eg, credit cards)? If so, prioritise clearing them, see overpay my debt?

  2. Are there any overpayment penalties? Many lenders let you overpay 10% of your mortgage balance each year, but add penalties above that, which usually kiboshes any gains. See overpay without penalty?

  3. Ensure you've an emergency fund. My rule of thumb is have three to six months' bills money saved, and only overpay any savings above that. Don't assume just because you've overpaid, if you were unable to cover the mortgage a few months, they'd say it's fine - you'd likely be in arrears.

Reducing your mortgage size can get you a better deal

Overpaying might mean you drop a loan-to-value band when you next remortgage - as it reduces the proportion of your home's current value you're borrowing.

The main bands where interest rates really drop are at 90%, 80%, 75% and 60%. So, if you overpay enough to drop to a lower band, it can be a big winner. Equally, if saving wins for you, save at top rates until it's time to remortgage then use those savings (leaving an emergency fund) to reduce what you borrow.

To gain from overpaying, ensure your lender reduces the term not your repayments

Ask your lender to ensure each overpayment reduces your mortgage term. Some instead just lower your future repayments, and keep you paying over the same period, so there's no interest gain.

Don't just shorten your mortgage term though, as that locks you in to higher future repayments - see my old Overpaying vs shortening term blog for more.

PS on overpaying (and saving) versus investing

Overpaying and saving are ways to use your money with no capital (initial cash) at risk. The other choice is investing, where you hope for better rates, and are prepared to risk capital to get them. There's nowt wrong with investing (especially over longer terms), I just don't cover it, and it's tough to know what'll win without the benefit of hindsight.

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