Borrow on mortgage or use savings?

staggerlee

Hi
I am in the process of extending the Lease on my flat which will cost about £15,000. I have just about enough savings to cover this bill, with a bit extra left for emergencies. As mortgage rates are looking very similar to savings rates, is it worth considering borrowing the amount on my mortgage avoiding the wipe-out of the savings?
Thanks

opinions4u

I would usually suggest retaining a contingency fund of at least 3 and preferably 6 months net pay, if that helps.

Another key factor is the rates themselves. What rate can you borrow at? What rate are your savings attracting after tax?

staggerlee

I have calculated I would have about 4 months pay contingency if I paid the £15k from savings.
People often say if you have the money for a bill, don't borrow and go into debt- this would probably seem the sensible option.
However, rates as they are these days, if you do borrow a lump sum on your mortgage for the next 10 years, the interest you get from your savings may well pay-off the interest you are paying on that loan. This looks on paper quite attractive and means you don't delve deeply into your savings. However that is based on today's rates only.
In theory I think I am right in thinking that if you pay say 4% on your mortgage for the next 10 years, and you receive 4% on your savings for the same amount for 10 years, you have got an interest free loan? Or is mortgage interest calculated in a different way than savings interest?

HappyMJ

Saving interest is taxable unless in an ISA. If it's in an ISA once withdrawn you can't put it back. You would get 3.2% after tax on the savings in a normal account. Unless you have found a secrect product paying 5%. Why don't you hedge your bet and pay 50% from the mortgage and 50% from the savings?

YorkshireBoy

staggerlee wrote: »

Or is mortgage interest calculated in a different way than savings interest?

No, both are calculated daily.

However, as o4u has inferred above, many people will pay tax on their savings interest (at 20-40%) unless its in an ISA. So, can you make 4% after tax on the savings account? ie 5% gross as a basic rate tax payer or 6.7% gross as a higher rate tax payer? I think not in the current climate.

jamesd

I'd go with the mortgage option if you can get 4% or less. Particularly if you're comfortable using investments (share or corporate bond) because those can and do pay out more than 4% inside an ISA or pension, with no tax to deduct from that.

What you also get when borrowing is help from inflation. That reduces the real value of the amount owed as your pay increases over time, until eventually the mortgage capital value can become quite trivial compared to your final pay - what started out as years of pay can become less than a year. Depends on inflation of course.

staggerlee

At the moment my savings are in a non-ISA wrapper- obviously a non-starter if used to pay off a mortgage loan.
Even if you were to borrow on the mortgage (10 years left), and put away savings in stocks and shares, then it may be assuming too much that mortgage rates for the next 10 years will always be less or equal to the interest you are gaining in your ISA wrapper.

jamesd

With investments it should be reasonably easy with ongoing contributions. Never guaranteed, but the odds do favour you. The odds are better the worse the economic situation and markets when you start.

lilac_lady

I'd use your savings as you can carry on bilding up your emergency fund. If you became unemplyes or ill then you'd have less debt.

jamesd

If unemployed or ill for only a few years it's better to have the mortgage debt and the capital in savings. At 4% mortgage interest rate given the interest part of the mortgage debt can be paid for 25 years out of capital. Less time when it's a repayment mortgage with the capital to cover as well or at higher interest rates but it's still much better in flexibility terms to keep the capital available.

This changes if means tested benefits become involved. Then it's better to reduce savings to below the savings limit for means tested benefits by repaying mortgage borrowing.

staggerlee

I have insurances in place which covers mortgage repayment if ill or unemployed for 12months. Also lifer cover and critical illness cove rin place which pays out a lump sum to cover your outstanding mortgage debt. Maybe this shores up my position in terms of not needing the savings to hand in the case of illness or unemployment.