Should I max out mortgage term and overpay?

jonny_watson

Hello to the forum! A friend recently suggested that when it comes to the length of the mortgage term you should always go for the absolute maximum available (i.e. 30 years, maybe more) and then overpay with the amount saved that you perhaps should be paying.

A good opportunity to dust off my old mortgage spreadsheet and remind myself about amortization! I told him I would create 2 distinct scenarios:

1. a 15 year mortgage term table
2. a 30 year mortgage term table with an overpayment per year of the difference between the 15 year amount and the 30 year amount

And then the 2 scenarios would race to zero!

Stick with me!

My illustrative figures: a £125k property with a £100k mortgage. A fixed rate of 3.69% throughout. So I plug the data in and am surprised by what I find..which I will not reveal just yet.

Is this leading to a question? Yes. What's your gut feeling - should the term be maxed out with overpayments? Should you just go for the minimum term that you reasonably afford? Which one gets to zero first?

Thrugelmir

Arguably going for the maximum term means that there isn't discipline to pay back the mortgage quicker. As easy to spend the money elsewhere. Not in repaying the mortgage. Personally I would opt for a shorter term i.e. 20 to 25 years at the outset. Reduce the debt owed and get equity banked.

MoneySaverLog

All things being equal, interest rate, repayment amount then there may be little difference I would have thought with overpaying instead of going for the shorter term.

Having the longer term may help if rates go up as you may have that extra bit of a cushion that you would not have if you chose a shorter term. But having said that you end up paying back for longer if you do that.

Imma_Number

jonny_watson wrote: »

A good opportunity to dust off my old mortgage spreadsheet and remind myself about amortization! I told him I would create 2 distinct scenarios:

1. a 15 year mortgage term table
2. a 30 year mortgage term table with an overpayment per year of the difference between the 15 year amount and the 30 year amount

And then the 2 scenarios would race to zero!

You haven't fully specified scenario 2.
2a) Overpay the lump sum at the beginning of the year
2b) Overpay the lump sum in the middle of the year
2c) Overpay the lump sum at the end of the year.

2a beats 1, 2b is approx the same as 1, 2c is worse than 1.

Scenario 3: Over pay each month by the pcm difference between the 15yr and 30 yr on the same day as the regular payment comes out: EXACTLY the same as scenario 1

getmore4less

How long a mortgage last is determined by the payments.

so if the payments are the same they end at the same time.

term is never relevent other than to set an initial payment.

squeeks

Personally I am looking at long term mortgages with unlimited overpayments.

While I could afford a shorter term mortgage at the moment. Rates can go up, circumstances can change etc... I don't want the amount I have to pay each month to cause me issues and sleepless nights. Having to try and agree at the 11th hour, SMI, mortgage holiday or switching to interest only periods.

Any overpayment reduces your monthly amour as well, so it seems to be a win win situation to me.

John424

Exactly the same is the answer. What you choose depends upon your personal view. If you opt for the longer term and overpay it gives you a cushion in bad times but then you have to faff around making the overpayments always recalculating the amounts needed also. Shorter term does it for you but if you hit rough times then you may struggle to find the extra few quid. Horses for courses!

SG27

It depends on how the interest is calculated too. Is annual or daily? If it's annual the OPs won't reduce the interest charged until the following year. Whereas the normal payments will reduce the interest straight away.

If it's daily interest it will be near enough identical.

jamesd

Your friend is right, you should go for the longest term possible and if possible also for interest only. The reason for this is reduced risk for you, without extra cost to you.

The lower payments are the ones that you are required to pay. They are the ones that you must provide for with your emergency fund and the ones that you have to survive with while not working or sick or whatever. Nothing prevents you from paying more, so if you want to you can just do that and only drop down if something bad happens or to help with budgeting.

So far as cost goes, there's no difference. All that matters to that is how much is paid and when, not what the required payment was. You'd have to search hard to find annual interest calculation mortgages today, they are largely an obsolete product, but you probably could find one if you tried hard enough.

Since you need a lower emergency fund that's money freed up for other things, like paying more off the mortgage, so overall it can be cheaper than a shorter term. Not a lot, but it's a nice bit of extra saving.

You probably get to choose what the effect of higher payments is, either lower required payments or shorter term. Lower required payments is the one that increases your safety, since that's another reduction in what you must pay or face potential repossession.

Offset mortgages are even better for safety because you can make the extra payments into the offset account and still have the same effect of reduced required payments. But the money is still available to you if you need it and the mortgage lender can't refuse to let you use it, as they can with overpayment money. However there is one risk from this, because the savings account is savings for means tested benefits, so if you have a risk of needing those you could well be better off with overpayments. Offset mortgages may well also allow overpayments as an option.

There are some cases where shorter terms are better:
1. A mortgage might cap the amount of overpayment allowed, most common for fixed interest terms.
2. Some people need to be forced to overpay, so use shorter terms to do that. I think this is a really poor deal because it's unnecessarily risking your home, but some people still do prefer it.
3. Sometimes the interest rate on longer terms might be higher.

In your two scenarios you've set up a difference in payments that will cause the answer to be different: when the money is paid. For the shorter term it's paid monthly. For the annual overpayment it could be earlier, which would cause that to be cheaper, or later, which would cause it to be more expensive. Doing it mid year would be about the same, provided the lender was using the now normal daily interest calculation. Do it instead with regular monthly overpayments and there should be no difference. Though some providers might take some overpayments to be payment in advance unless told otherwise and that would create a difference. Don't count on mortgage calculators to get such things right, it's quite likely that they will miss some detail and give a not quite right answer.

getmore4less

John424 wrote: »

Exactly the same is the answer. What you choose depends upon your personal view. If you opt for the longer term and overpay it gives you a cushion in bad times but then you have to faff around making the overpayments always recalculating the amounts needed also. Shorter term does it for you but if you hit rough times then you may struggle to find the extra few quid. Horses for courses!

Not if you make it at least the minimum to hit the target term and stay over the average(Ie keep ahead of the curve)

If you are variable and sometime are under average as long as you can try to make the average over a period it will never be far off so once a year calc would be sufficient.

it's a dead simple calc anyway so even doing it more regular is not pain.

Kynthia

Unfortunately not every lender makes it easy to overpay. The product I'm currently getting allows overpayments but they must by £500+ a time and posted to them by cheque. Therefore it's easy to see how good intentions might fail.