When a Mortgage overpayment isn't really an overpayment.

adventuretwist

I've just re-mortgaged with the The Vernon for the final five years of my mortgage (which i'm hopping to pay off in 3-4 years, but 5 years is their shortest term). 

When the mortgage started I immediately paid off the maximum over-payment of 10% (the minimum mortgage I could take out was £75K) and was surprised to find that they immediately recalculated my monthly repayments from £1467.76 to  £1220.46. This means by the end of the first year my overpayment of £7500 has turned into an overpayment of only £6300, which means I'll pay interest on the extra £1200 every year until the mortgage ends.

This surprised me. I expected them to re-calculate the interest payments either immediately, or at the end of the year - but for the capital over-payment to stick through the life of the mortgage. 

I examined their t&c's (www.thevernon.co.uk/downloads/guide/file/1704/residentialmortgageconditions2016web_1.pdf/) and spoke to them. They pointed me at the following sections, which I guess I can see justify their position (the emphasis is mine)

5.2. You must make Monthly Payments. If your Loan is a repayment loan, the Monthly Payment will be calculated so as to pay off the Loan and interest and all other amounts you owe the Society under these Conditions by the end of the Mortgage Term. If your Loan is an interest-only loan, the Monthly Payment will only cover interest, and all other amounts you owe the Society under the Mortgage (including the Loan itself and any Fees and Costs that are added to the Total Debt) must be paid separately by the end of the Mortgage Term. Your Mortgage Offer will tell you whether your Loan is repayment or interest-only. It may be that one part of the Loan is on a repayment basis and the other part is on an interestonly basis.
5.3. Monthly Payments may be adjusted up or down to take account of changes in the rate of Interest, the amount of the Total Debt or the Mortgage Term, any other changes to the terms of the Mortgage (including any change in the repayment method) that we may agree to or the ending of any particular feature of the Mortgage (such as a fixed or discounted interest rate).
That said,  I find this to undermine my intuitive concept of over-payment - and I was curious, is this just me? Is this a normal approach for a mortgage company to take? Is it reasonable?

tacpot12

Mortgage companies always have a choice as to whether to reduce the term or reduce the payment. I can't say what the default choice is across the industry, but reducing the payment to keep the term fixed is not unreasonable. I think it is reasonable as you made the payment immediately, which makes it clear that you were trying to get around their minimum term being five years.

If you put the difference between your original and new payments into a savings account (ideally a regular saving account that pays a good rate of interest and allows one withdrawal per year), you will be able to save up further amounts to make an overpayment in 12 months time, and continue to do so each year. This will more or less cover the extra interest you are paying.