can a clever mse please explain......

jemw

.......I have a query and unfortunately for me, when something is ticking away in my mind, I can't switch off and go to sleep!

The wonderful Determined1 has created an OP spreadsheet for both our mortgage and loan accounts, which calculates the interest savings when making OPs.

The mortgage rate is 5.95% fixed for 10 years with an overall loan term of 30 years (currently 18 months in)

The loan rate is 7.9% for 5 years (currently 12 months in)

Now, whenever reading posts on this site, they usually always recommend paying off the most expensive debt first (after creating emergency fund, of course) . However, OPing my mortgage by £1k saves substantially more in interest than OPing £1k on the loan?

Over 12 months, I understand that the saving would be greater when OPing the loan. However, as the mortgage term is much longer than the loan term, I don't understand how more savings can be made by paying off the loan first...

Can a clever MSE please explain?

SimbaSimon

I think the idea behind it is you try and pay the most expensive loan off first as quickly as possible. Once this is done you should of saved a sum of interest in repaying quicker then normal and you should now have more money spare a month hopefully. You can then put this into over paying the mortgage where as previously this money wouldn't be available if you just made an additional payment to your mortgage.

PipPip

jemw wrote: »

.......I have a query and unfortunately for me, when something is ticking away in my mind, I can't switch off and go to sleep!

The wonderful Determined1 has created an OP spreadsheet for both our mortgage and loan accounts, which calculates the interest savings when making OPs.

The mortgage rate is 5.95% fixed for 10 years with an overall loan term of 30 years (currently 18 months in)

The loan rate is 7.9% for 5 years (currently 12 months in)

Now, whenever reading posts on this site, they usually always recommend paying off the most expensive debt first (after creating emergency fund, of course) . However, OPing my mortgage by £1k saves substantially more in interest than OPing £1k on the loan?

Over 12 months, I understand that the saving would be greater when OPing the loan. However, as the mortgage term is much longer than the loan term, I don't understand how more savings can be made by paying off the loan first...

Can a clever MSE please explain?

You are looking at 30 years of mortgage interest versus a loan term of 5 years. To assess whether it is worth repaying one or the other you should not look at total amount of interest in pounds sterling for a 30 year mortgage versus total amount of interest in pounds sterling for a 5 year loan. To assess whether you should repay the loan you need to look at the price paid for loan, being the interest charge as a percentage of capital versus the price paid for the mortgage, again interest charge as a percentage of capital. The price should be for the same time horizon so either you look at the 5 year loan versus 5 years worth of mortgage interest charges (in percentage terms) or, the simplest way, is to look at the price charged for a single year. In this case the price of the loan is 7.9% for a single year compared to the price of the mortgage being 5.95% for a single year. Forget about absolute amounts in pounds sterling, the price per pound of money you borrowed is higher on the loan for the equivalent time period, so it should be repaid first.

Edit: an analogy that may or may not help. Through circumstances you are obliged to have two gardeners. One works for 5 hours per week at 20 pounds an hour, costing you 100 pound per week. At the same time the other does 10 hours per week for 15 pounds per hour, costing you 150 pounds per week. You now have the option to reduce the hours of either gardener. What you are doing is comparing 150 pounds with 100 pounds and concluding that gardener 2 costs more in total, so you should cut his hours rather than gardener 1s. What you should do is look at the equivalent price per hour, which is 20 pounds for gardener 1 versus 15 for gardener 2. So in fact you should cut gardener 1's hours. Am I mad or does this make any sense?

Jonbvn

Just compare them over a year, the terms are not relevant.

OP the loan by £1k and you save £79.00
OP the mth by £1k and you save £59.50
I.e. nearly £20 better off by OPing the loan!

OP the loan first and when it is paid off you can direct all your spare cash to OPing the mortgage. Be assured that this is the best way to proceed.

jemw

thanks guys - i knew someone would be able to explain it properly