Overpayments question

waterbaby

Hi all,

I overpay my mortgage every month.

I know that this is a good thing to do, - but what exactly are my overpayments doing? If I pay in, say, £100, does this reduce the debt by £100 (and therefore lower the interest)?

I can't get my head around it It seems obvious - until I think about it. Most/lots of my main payment is interest isn't it (just 1 yr into a 25yr mortgage) - but none of my overpayment goes on interest does it?

MyUserNamesTaken

I'm overpaying my mortgage by £150 a month (double what I have to pay - I've got a lot of equity in my house). As far as I know, the overpayment pays off the actual money borrowed, as opposed to the interest.

Joe_Bloggs

Your overpayments could reduce your capital you pay interest on within a day. This may not reduce the monthly mortgage payment taken as many are only changed upon a BofE rate change. There are dinosaur lenders who only consider overpayments annualy. Research the terms and conditions that apply. There should be an overpayments section with the details.
J_B.

homersimpson_3

Interest charged as % of capital so if you reduce capital you pay less interest. To see any real reduction you need to pay off thousands but overpaying over long period cuts down length of time paying mortgage. If you payed off £100 once wouldn't see any real difference but if you start paying £100 per month say over 10 years £12000 the effect will be enormous.
Once captial starts to be reduced you can have mortgage payments adjusted - but if you can leave them at the rate you're paying mortgage will be paid off quicker.
go to https://www.debtfreeday.co.uk and use calculator to see effect of overpayments.

mountainofdebt

checking with your mortgage lender.

I had a major issue with Abbey recently over this. Bascially we were overpaying our mortgage by only a couple of pounds (you know the sort of thing payment due £389 so we were paying £400 per month).

It turned out that it wasn't reducing the balance but was reducing the amount that was attracting interest (if that makes sense!)

It turns out that although we have a mortgage where interest is calculated on a daily basis the extra won't go towards reducing the capital - the minimum is £500!

We are now in a position to overpay our mortgage by £450 (not that we will put all this towards the mortgage every month!!!) so I am going to put any overpayment in a savings account which attracts interest at the same rate as my mortgage. When we hit a reasonable level we will then give it to the mortgage lender.

david78

waterbaby,

I assume you have a repayment mortgage. If you have a mortgage where interest is calculated daily (or monthly) then your overpayments will be helping you. Over time the overpayments payments will reduce the total amount you pay for your mortgage and you should finish paying it off earlier.

If your mortgage has just started, making mortgage payments of the size calculated by your lender won't pay off much capital in the early years. But if you are paying £100 more than this amount, you will be paying off at least £1200 more each year. This reduces the debt and the interest charged in all future years. Do this every year and compounding will save you a packet over the new, reduced term of your mortgage.

But there is something to watch out for. Most lenders will adjust the amounts of the payment they want each year (an annual review). If you have made overpayments of £1200 one year, they will take this into account and ask for a lower payment each month in the following year. You need to compensate for this reduction in payment by increasing your overpayments each year. You can aim to keep the total payment constant but increase it when there is an increase in interest rates. Alternatively it can be a good plan to "index" the monthly payments to any rises in salary that you get.

Overpaying is very tax efficient and a sensible thing to do. Keep doing it if you can. You only feel the benefit when the mortgage is gone.

waterbaby

OK that makes sense. I was afraid that they might somehow turn into interest payments, though I couldn't see why they would.

I phoned the lender this morning as it occurred to me that they might have penalties for too much overpayment. They do; I am not allowed to pay back any more than £11,000 per year in overpayments. Can't see that being an issue

My overpayments are equal to 55% of my main payment, and from that calculator the mortgage will be clear in 12 years instead of 24 (saving £43k!).

However, it probably won't stay like that as I'll be expanding at some point (the house not me). Still it's a good feeling to be making progress.

Thanks for the replies. All very useful.

david78

Sorry waterbaby, I was editting as you posted.

waterbaby

Thanks David78. Must have been typing at the same time as you.

Yes, I have a repayment mortgage and it has daily interest.

It is insane the amount of interest that they get!! I don't mean that they are wrong to charge it - when you add it all up, it's so much.

It hit home right at the start of the mortgage when we were charged £250 interest for the two weeks that came before the first calendar month. That's effectively £250 down the toilet,and thats when I vowed to overpay as much as possible.

Why is it tax efficient?

jimclark1967

waterbaby wrote:

Why is it tax efficient?

Because if you'd put the overpayment amount in a savings account you'd be paying tax on the interest you receive.

mountainofdebt

One thing to be wary of though is that if you are tied into a mortgage for what ever reason there may be a limit on what you can over pay each calender year.

Eg we are tied into our mortgage until Nov 2006. Until then we can only make overpayments in any one calender year up to 10% iof the balance of the beginning of that year.

ie balance @ 01/01/05 = £39000
we can only make overpayments totalling £3900 between 01/01/05 - 31/12/05 without incurring a penalty.

Also another thing to remember is that if you are paying by dd then the company tends to set up the dd for the amount that it is expecting. We were told that if we paid anyextra in after the mortgage dd had been collected then the following month's dd would be reduced by that extra amount. We did get around this though by paying the mortgage by SO rather than DD (which was even better as when interest rates went down we didn't alter it so we were making even bigger overpayments without us realising it!)