Offset mortgages

An offset mortgage links one or more savings or current accounts to the mortgage with the same lender. Each month, interest is charged on the mortgage balance minus the money in those accounts. The savings stay in the borrower's name and can usually be withdrawn at any time, but they earn no interest while they are offset.

The saving can be used in two ways. The monthly payment can stay the same, so more of each payment reduces the loan and the term ends sooner, or the payment can fall while the term stays the same. Lenders set out which options they allow in the mortgage offer.

Interest on an offset mortgage is worked out on the net balance, meaning the mortgage minus the linked savings, usually daily or monthly. If the savings rise, the interest falls straight away, and if money is withdrawn, the interest rises again. Some lenders also let family members link their savings to the same mortgage.

In a worked example, a £250,000 mortgage with £50,000 linked savings is charged interest on £200,000. At 5%, that saves about £2,500 of interest in the first year compared with no offset (example figures, not market data).

The offset mortgage calculator shows how a chosen savings balance changes the interest paid and the term, using the borrower's own loan and rate.

Offset mortgages tend to suit borrowers who keep a large cash balance, such as savings for tax bills, an emergency fund or money set aside for a planned expense. Because the saving is mortgage interest not paid, rather than savings interest earned, there is no tax to pay on it, which matters most to higher-rate taxpayers.

Self-employed borrowers who hold money for tax often use offsets, as do people who receive lump sums such as bonuses. The benefit is smaller for someone with little cash, because the offset only works when savings are held in the linked accounts.

The main disadvantages of an offset mortgage are that fewer lenders offer them, the rate can be a little higher than on a comparable standard deal, and the linked savings earn no interest. If savings are low, a cheaper standard mortgage plus a normal savings account can work out better overall.

Offset mortgages are still available in the UK from a number of banks and building societies, on fixed and tracker rates. Firms that arrange them can be compared on the residential mortgage brokers page, and a broker can say which lenders let family savings be linked.

Compare offset mortgages on the rate, fees, which accounts can be linked, whether family savings can be offset and whether the borrower can choose to cut the payment or the term. The total cost over the deal period, set against the interest a normal savings account would pay after tax, shows whether the offset is worth it.

Early repayment charges and overpayment limits apply as on other mortgages, so it helps to check them before linking large sums.