Overpay or save?

vernall

Hi guys, I posted this yesterday but possibly in wrong forum so apologies

Current mortgage owing is £134,000 with 18 years left of a 20 year mortgage.

Since the mortgage started I have overpay £500 every month and each December i have overpaid a lump sum. £6000 last year and £5000 this year.

I am 2 years into a 5 year fix of 1.89%

So now I can get a 3% ISA from Virgin, my head is saying put this £500 every month and the lump sum into there instead of overpaying it. I do also understand I am not gonna be able to get a rate of 1.89% in 3 years time (I doubt) and that each year my 10% I can overpay will be less and less so won't be able to directly overpay such a large lump sum.

This is where I am either doing something wrong or understanding something wrong.

I use the mortgage overpayment calculator on MSE as it shows you the difference between overpaying versus saving.

I have taken the lump sum out of the equation as it does not allow me to add a lump sum every year, just a one off.

The results say I will save £11,110 in interest and pay the mortgage off 8 years sooner by overpaying my £500 p/m

Vs

£10,050 in interest in the ISA for depositing £500 p/m

So a net gain of £1,070 for overpaying

Why is this so? Surely the 3% in savings is better than 1.89% interest from the mortgage

There will be a simple answer for this I am sure haha

Brie

How long will the 3% be running?  If mortgage rates go up will the ISA rate go up too?

Frankly overpaying is future proofing your financial security in case something completely weird happens.  But that's just my opinion.

grumiofoundation

Higher interest savings will always beat lower interest mortgage.

The calculator isn't comparing like for like.

You save £11,110 in interest over the course of the mortgage (18 years) but the calculation for 3% interest is only for 10 years (doesn't include the next 8 years of higher interest).

After 10 years your options with the monthly £500 are to have 

a) save = savings of ~70k - mortgage of ~65k 
b) overpay = savings 0 - mortgage 0.

Obviously a) is better. 

Imagine for next 8 years you now stop overpaying. 

Option a) With no extra deposit your ~70k becomes ~84k after 8 years.
Option b) You now have mortgage payment of ~£725 to save. Savings at 3% gives you ~£79k after 8 years.

Hence over 18 years savings better by ~6k.


But in some ways the comparison to look at is in 3 years

Option a) save = savings 18,810 - mortgage of 114,710 = debt of 95700 
Option a) overpay = Mortgage of 96,210

So option a still better, by £500


N.B. Should note this relies on you not spending the overpayments of course!