Offset Mortgages -- the Numbers

showmethemoney_6

Digging out

Current savings rate - worked on the basis that my ING account gives me 4.85% gross and 2.8% net.

I also have a cahoot account so we can use this for the calculation.

Average current account balance - well I transfer any residual money from my current account to the ING/Cahoot account. So can we say that I will have an average of £1800 in the current account?

I'm not married (but working on it :P - so cant offset anything to spouse.

Also, I will not have anysavings once I buy the house, I will save approx £1800 a month after that from my salary.

Is offset still better?

Thanks for your help

DiggingOut

But, it occurs to me though that B is not constant for a repayment mortgage so it should be replaced by an average value over the mortgage term. Because B ends at 0, a good number for the average is B/2.

So the longer-term formulae is:

S > (OR-NOR)/(OR-SR) * B/2

Or in my example.

S > 1/6 * B

Also if you have scope to increase Savings S over the years, the offset becomes more attractive. They also become more attractive towards the end of your mortage term when (a) B is decreasing faster, and (b) the fees on remorgages become relatively more expensive. Anyone like to modify DiggingOut's formulae to account for these factors?

Good point about decreasing balance, although few people who are thinking about this approach are really looking at a life of mortgage scenario. If someone is considering getting into an offset, they are typically thinking, "What is the best mortgage for me for the next 2-5 years?"

For most people, there is not going to be a huge change in mortgage balance during that time, especially if they go with an offset -- overpayments would go into savings, not to reducing the balance.

For someone who is in an offset and considering a change, the question is whether, right now, it is more beneficial for me to stay or to change.

I don't think it is reasonable to try to construct formulas for changing mortgage balances/savings balances. That is spreadsheet work, which unfortunately I don't have the time to do.

It probably makes sense to view the formula as stated as reflecting the current situation -- based on my savings today and mortgage balance today, an offset mortgage will be most beneficial (or not) for this year's interest costs.

If looking at a set horizon, the average savings balance and average mortgage balance over that horizon would give a good approximation -- although changing interest rates dramatically change things, of course.

If looking at the entire life of the mortgage, your estimate of the average balance being 1/2 of today's balance is reasonable, although the actual average will differ slightly.

DiggingOut

I also have a cahoot account so we can use this for the calculation.

OK, good. So we'll assume 3.3% (5.5 gross). Too bad you aren't married, it would have saved some tax (although it is rather expensive in other ways ;D).

Average current account balance - well I transfer any residual money from my current account to the ING/Cahoot account. So can we say that I will have an average of £1800 in the current account?

OK. And I'm assuming the current account rate you gave was gross, so an effective current account rate of 2.91%.

And Y (% in current account) is 4.5%.

savings breakeven point:
X = (100 * (OffsetRate-NonOffsetRate) + Y * (CurAcctRate-OffsetRate)) / (OffsetRate – SavingsRate)

with your numbers
X = (100 * (5.85-4.89) + 4.5 * (2.91-5.85)) / (5.85-3.3)
= (100 * (0.96) + 4.5 * (-2.94)) / (2.55)
= (96 - 13.23) / 2.55
= 32.4%

So savings over 32% means an offset is better for you.

Also, I will not have anysavings once I buy the house, I will save approx £1800 a month after that from my salary.

Now, this ties in very well to what David was saying here. You have no savings at all, so you are below the threshold of 32%. By the end of the first year, you will have savings of 55%. That means the first year, your average will be about 27% -- below the threshold. After about the seventh month the offset will be cheaper, but on average for the first year it will cost more. On average, for two years, it will be much less.

Do you have to keep the savings liquid so you can get at them, or can you just make overpayments on your mortgage? If you can just make overpayments, I would be looking for the cheapest flexible mortgage you can find, and make those £1800 a month in overpayments. You will wipe out the mortgage very, very quickly that way -- less than two years.

Flexible mortgages may not have the lowest rates, but they are typically lower than offset mortgages. In your case, I'd be looking at that very seriously.

Joe_Bloggs

@Dug and showmethemoney
I made an edit to my post where I mentioned 0% credit cards could be used to temporarily fill a hole in savings. I managed to get £15000 this way in a month.
If showmethemoney can save 1800 a month what has it been spent on in the past given no savings at present ? Surely a lifestyle change is called for.
J_B (ever the sceptic.)

DiggingOut

You skeptics are terrible. ;D

He said "no savings after I buy the house." Clearly, the savings are going to a deposit, which is why he only needs a £50K mortgage.

Joe_Bloggs

I'd hoped it was spent on foreign travel, fast sports cars and faster women and on general thrill seeking.
Saving money for a house is nearly as bad as saving for a pension in terms of thrills!

DiggingOut

Well, he didn't say WHO would be in the house, now did he?

david78

I don't think it is reasonable to try to construct formulas for changing mortgage balances/savings balances. That is spreadsheet work, which unfortunately I don't have the time to do.

I quite agree. The question was asked tongue in cheek.

DiggingOut

Sorry, I must be humour-deficient today. ::)

edit: probably because I spent too much time down in MSA stringing beads together. :P

showmethemoney_6

Easy boys!
:P

I'm a she not a he! !!!

So no need to spend the money on fast women (already got a fast sports car .... although this is going in order to finance the house - doh). Maybe I'll be another fast sports car when the house is paid off!!!!

However, JB you do have a point about "general thrill seaking" ........ :P

Digging out - you are correct - savings are going towords the deposit.

Thanks for all your help guys - its been invaluable.

Off the get the best variable rate morgage with full flexiability to make overpayments tomorrow morning!

Thanks again guys