Should you overpay your mortgage?

Being mortgage-free is a dream many people share. Imagine owning your home outright, no more monthly payments, and more financial freedom to do what matters most to you. But is overpaying your mortgage the right move for you? And is it always the smartest financial choice?

What are mortgage overpayments?

A mortgage overpayment is when you pay more than your regular monthly mortgage amount. The additional sum is usually applied directly to reducing the outstanding loan balance (the ‘principal’ or ‘capital’), which in turn can reduce the total interest you pay and may shorten the mortgage term.

Why does that matter?

Interest is typically charged daily, so the quicker you reduce the amount you owe, the less interest you’ll pay overall. Even modest regular overpayments, such as £50- £100 a month, can potentially knock years off your mortgage and save you thousands in interest.

Here’s how it works depending on the type of mortgage you have:

• Repayment mortgage: Overpayments go directly toward reducing the outstanding capital. This lowers the amount of interest charged in future and can shorten the overall mortgage term.
• Interest-only mortgage: Overpayments reduce the outstanding principal, so you’ll owe less at the end of the term. They don’t shorten the term or reduce your monthly interest payments unless your lender recalculates them.

The hidden fees of overpayments.

If you’re on a fixed-rate mortgage, most lenders allow you to overpay up to 10% of your outstanding balance each year without any penalty (this may vary by lender). If you go over that limit, you could be charged an Early Repayment Charge (ERC), usually between 1%- 5%. The exact fee you’d be charged depends on your lender, and sometimes depends on how much is outstanding on your mortgage.

If you’re on a Standard Variable Rate (SVR) mortgage, the rules are usually more relaxed. You can usually make overpayments, free from any penalties.

Top tip: Got a lump sum ready to put down but still tied into a fixed-rate deal? It might be worth waiting until your fixed term ends before making a large overpayment.

Why might you want to overpay?

• Potential to save on interest. Overpayments reduce how much interest you’ll pay over the life of your mortgage.
• Pay off your mortgage sooner. Even small regular overpayments can cut years off your mortgage term.
• More peace of mind. Clearing your mortgage gives you greater freedom and flexibility.

Is overpaying right for you?

To see if this might be suitable for your financial situation, ask yourself:

• Can I comfortably afford to overpay? Make sure you have enough left over for day-to-day expenses and unexpected costs.
• Do I have an emergency savings fund? Ideally, 3-6 months of living expenses should be set aside before overpaying, so you’re protected if something unexpected happens.
• Do I have high-interest debt? If you have credit cards or personal loans with high interest, it may be better to pay those off first before overpaying your mortgage.
• Does my mortgage allow overpayments without charges? Check for any fees or restrictions that could reduce the benefit of overpaying.
• Am I planning to stay in my home for a while? Overpayments make more sense if you’re not planning to move soon, so the benefits can compound over time.
• Could my money work harder elsewhere? Consider whether investing in pensions or ISAs could provide better long-term returns, especially if your mortgage rate is relatively low.

How much might you want to overpay?

If you’re thinking about overpaying your mortgage, start by taking a good look at your monthly budget. If you’ve got money left over after covering your essentials and savings, you might want to consider the following steps:

1. Start small. Begin with an amount you’re comfortable with and see how you get on.
2. Track the impact. Keep an eye on how your mortgage balance reduces, and check whether your overpayments are helping you meet your financial goals.
3. Review regularly. As your circumstances change, so can your overpayments. You can increase, reduce, or even pause them whenever needed.

For many people, making mortgage overpayments can be a simple and effective way to save money while strengthening their financial future. However, when it comes to managing your finances, there’s no one size fits all solution. As highlighted in this article, the right decision depends heavily on your personal circumstances.

If you’re unsure what to do, please seek guidance from a regulated financial adviser.