This content is for information and inspiration purposes only. It should not be taken as financial or investment advice. To receive personalised, regulated financial advice please consult us here at Elmfield Financial Planning in Padiham, Burnley, Lancashire.
The dream of living mortgage-free is a powerful one. Indeed, it is often the reason why people want to overpay on their monthly mortgage – so they can repay their loan faster. Yet is this the best way to grow your wealth and gain more financial independence? Would investing more money into shares, bonds and other “non-property” investments be a better option? In this post, our financial planning team at Elmfield here in Padiham, Burnley (Lancashire) explores this in more detail. We hope you find this content useful. If you’d like to speak to an independent financial adviser then you can reach us via:
T: 01282 772938
Why overpay on your mortgage?
Over a mortgage lifetime (e.g. 25 years) most people are set to pay their lender a significant amount of interest on the loan. For instance, using this overpayment calculator, paying an extra £50 a month on a £100,000 mortgage (3.5% interest rate over 25 years) could save £7,571 in interest in total. The borrower would also own their home outright 3 years and 4 months earlier. Doing so could let some people retire earlier – since your monthly expenses would be lower.
The drawbacks of overpaying
Overpaying on a mortgage is not the best course for everyone. First of all, any extra money you commit will no longer be accessible. If you lack an emergency buffer (e.g. 3-6 months’ worth of living costs) then this could put you in financial difficulty. Secondly, many lenders simply do not allow you to overpay on your current deal. Or, they are likely to impose restrictions on how much you can overpay (e.g. up to 10% per year). Exceeding this limit could result in a penalty.
Clear other big debts first
Our financial planners understand that many people in Lancashire see debt as a “bad” thing and so want it cleared as soon as possible – including the mortgage. It is a human desire to not want to owe anything to powerful people (e.g. banks), and to have a sense of total ownership over a home. Yet it’s important to categorise different types of debt and take appropriate action on each one. For instance, personal debts such as unpaid credit cards with higher APRs (e.g. 20%) can seriously hinder your financial stability and capacity to save/invest. Clearing these first will be far higher a priority for most compared to overpaying the mortgage. For your asset-linked debts like your mortgage or student loan, however, there is less urgency to pay these off early. A student loan, for instance, is wiped after 30 years and gives you a better chance of earning more during your career. Your mortgage, moreover, lets you live in a property where you can gradually build an equity stake and hopefully witness its rise in value.
Using extra cash to invest
Investing typically involves using disposable income to build a portfolio of shares, bonds, and other assets to achieve a higher growth rate compared to cash savings (although investments may go up and down). Many people prefer the idea of investing to overpaying on a mortgage because the returns are likely to beat any interest savings achieved for the latter.
The S&P 500, for instance, has generated an average of 10-11% per year between 1926-2018. Suppose you invested £100 per month and generated 6% average “real” returns per year over 30 years (to account for fees and inflation). By the end of the period, your portfolio may be worth nearly £97,500 – with nearly £61,500 generated in interest. However, suppose you wanted to overpay your £300,000 mortgage over a 30-year period by £100 per month (on a 3.5% interest rate). This would likely save nearly £16,000 in interest. The savings gained by overpaying £100, in other words, fall far short of the growth that could be achieved by investing £100.
Caveats and qualifications
Does this mean overpaying your mortgage is a waste of time? No. For some people, it can still be worthwhile. After all, investment returns are not guaranteed – yet the interest savings made by overpaying on a mortgage are much more so. Investments may also offer lower returns depending on your strategy, risk profile and choice of funds. Moreover, investing can be difficult for many people to stomach. Every day, your portfolio is likely to fluctuate in value as the stock markets ebb and flow. Your property, however, does not have a “ticker price” and so does not bring a regular, psychological battle with investor biases and emotions.
One option, of course, is to invest some of your money and also use some of it to overpay on your mortgage. Certainly, overpaying a mortgage typically beats simply putting spare money into a regular savings account (since interest rates are near 0% today). Certainly, all homeowners should think carefully about their current mortgage deal and see if it offers the best interest rate. Given today’s historically-low interest rates, it may be possible to remortgage and save more on your monthly repayments – even setting aside overpaying.
Invitation
If you are interested in starting a conversation about your own financial plan or investments, then we’d love to hear from you. Please contact us to arrange a free, no-commitment consultation with a member of our team here at Elmfield Financial Planning in Padiham, Burnley, Lancashire.
Reach us via:
T: 01282 772938
