Ms ZiYou Mortgage
Money

Why I don’t overpay the mortgage

Mortgages and overpayments are frequent topics in the personal finance community.

However personally, I do not overpay my mortgage.

Nowadays I just pay the contractual amount and no more.

But I wasn’t always like this.

I used to overpay

Yes, I used to be very much in the overpaying your mortgage Bandcamp. This was before I learned about investing and knew about FIRE.

My income and affordability were in a much different place then. And my LTV was up at 75%, which excluded me from the best mortgage deals,

And you know what? I believe it was the correct decision for me to overpay then, as much as I believe it’s the correct decision for me to not overpay now.

Buying a house 5 x base salary

So, I bought a house that stretched me. I took a mortgage that was the biggest number that the banks would lend me. I choose the mortgage lender that would lend me more in my situation. Hence, my mortgage was large compared to my income.

And the amount of my mortgage scared me at the time – it was a colossal amount of money. Moreover, I emptied all my savings to pay for that house. I stretched myself to buy the best house, rather than settle for an OK house. Do I regret that? Not at all, with some survivor bias, I can say it was the correct decision.

Hence I needed to keep that job to pay for the house. Given my low-security rate and no backup funds, I initially overpaid the mortgage.

Inflation 2.7% – Mortgage 1.5% – hence my mortgage is being eroded

Ms ZiYou Inflation

Inflation erodes both debt and incomes. And in the UK we are now in a place where inflation is significant and outpaces the best mortgage rates.

My mortgage is now at 1.5%. Inflation is greater than that, around 2.7%. Hence in real terms, my mortgage is decreasing. Over the 7 years, I have had this house, mortgage rates have consistently edged down and remained down.

And the erosion of my mortgage by inflation is one of the key reasons I now don’t overpay.

Mortgage Neutral

Moreover, I now divert a large chunk of my disposable income into investments instead of overpaying. And therefore I have been in the position for a while that I could pay off my full mortgage tomorrow if I wanted to.

Yes, I have more than the amount of my mortgage in investments – hence I am mortgage neutral. I make the choice to keep my funds in investments and maintain the mortgage as I believe this will be better for me financially. I am using the leverage available to me in this mainstream financial product.

With Money comes less worry

And that’s the truth – the more money you have the fewer worries you have about surviving. Many studies have shown that of the many challenges faced by those in poverty the effort needed to maintain financial control is much greater than for the affluent.

For some people, an unexpected leak or car breakdown can break their budget and plunge them into debt. However, as someone with significant reserves and cash flow, these worries do affect me. So overall this results in a more laid-back attitude. I know I have the funds to cover any emergency.

In addition, if I come across a barrier or a frustration, I am in a position to throw money at it. I can use money as a tool to reduce friction and annoyances in my life. Money can smooth the way in many, many situations in life.

Risk Appetite

So onto risk. No discussion of mortgage overpaying would be complete with looking into risk profiles. I am a bit of a risk taker. I like to challenge boundaries and see what is possible. And since I have the financial basics covered and have enough money to cover any eventualities I have a high-risk tolerance.

I don’t need the security of having a paid off home. I am not worried or concerned that the bank could repossess me or my fortunes could fade and I’d need to downsize. These are acceptable risks that I am happy to take on.

Therefore I am happy to invest the money instead of overpaying my mortgage. I understand the maths says this usually results in larger financial gains. But also that I could lose money and end up worse off. The balance of probabilities has been weighed up, and I am in the team let’s take a risk.

Privilege and Luck

As I get more affluent, I realise what privilege it is to be in this position. All that hard work over the years has allowed me to become comfortable in my late thirties. I can now gamble with money and hope my luck maintains itself.

The housing ladder has been very good to me since I jumped on it aged 19. This is luck in action – I took calculated risks each time and it has worked out well for me. But timing and good fortune played a massive role here.

And I am realising more and more how the mega-rich keep their fortunes. It really does take money to make money. And you need a base level of financial stability to cover your needs so you can afford to take risks. And most of the population never get this opportunity.

There are times when you should overpay

Just to make sure I’m clear here – I do believe there are occasions when you should overpay.

These are circumstances such as when you reach normal pension age, who you want to get into the lower LTV band if you are a higher rate taxpayer and don’t have the risk appetite. Some people also have a strong irrational dislike to debt, even when used as leverage.

I used to be concerned about LTV and the size of my loan and overpaid. However, I am not in any of these situations currently, therefore, I do not overpay today. I understand the risks and am happy to assume them.

Over to you

  • What are your thoughts?
  • Do you overpay your mortgage?
  • Have you changed your approach on this?

Thank you for reading – please leave a comment below and join in the conversation. You can also connect on Twitter or contact me privately

 

39 comments on “Why I don’t overpay the mortgage

  1. I was very similar had never invested and always paid my mortgage down. Getting divorced 4 and a bit years ago i was left with an enormous mortgage. Over 5 times my salary at the time as i chose to keep the house

    I got lodgers in and with the house price growth and overpaying I’ve got it back down from 330k to 279k. Still a bit number but 65% ltv and less than 4 times salary for me and 3 times joint for my partner and I so now feels affordable. With hindsight perhaps I should have downsized but actually looking at costs etc there’s not much in a high priced area for less than, 300 to 400k and i rent a room out still which helps with my mortgage costs

    I decided to fix for 10 years last year at 2.59% and invest instead for similar reasons to you . It does feel weird not too but I hope to have enough to if not clear then seriously make a dent in it when ten years are up I can then decide whether to pay or not then . I have about a third of it in non pension investments now so have a fair chance of building enough up to do it.

    I’m getting rid of my silly car end of the year and have a similar debate with myself going on at the moment about borrowing some of this vs paying for a car outright. I can borrow at 2.7% so seems daft to take money out of investments to do this when I can borrow at such low rates

    1. Hey FBA – indeed there is a lot in it the way you grow up and what you see as normal.

      And lodgers are definitely something people don’t talk about enough that can make a massive difference to your housing costs.

      And I was going to say your mortgage is massive compared to ming, but give it’s was between two people it’s not that different a ball park.

      I’m happy to pay my 1.5% mortgage and leverage into investments, but not sure I would for a car…..

      1. Yes a tricky decision. I’m going to downsize my car but still want something decent so will spend a low 5 figure sum on it so its enough that I’m still making a decision. I’ll have enough in cash to do most of it so will be a small loan 5k to 10k depending on how much I spend but i dont have alot of ready cash atm. I’d need to sell either investments or p2p both of which are making more I’ll see when the time comes it’s a year away yet

  2. Hey Ms Ziyou,
    I don’t think there is a right or wrong on this.
    Both are very sensible things in terms of investing or overpaying your mortgage.

    Me personally I prefer to have a balance and therefore I set a % limit on how much I invest. Then the rest goes towards overpaying the mortgage.
    Or in my current situation, instead of overpaying we are actually saving up for a deposit to buy our next bigger house.

    We are planning to keep this house after buying our next one, hence why we are not overpaying and then releasing the equity by selling it.

    People talk about the erosion of debt by inflation as though this is something that can be easily quantified and may use it as an excuse to keep debt longer than necessary. I am sure that is not true in your case. I choose to ignore that because £100,000 debt today is still £100,000 in debt 10 years from now. Even if your income has risen along with the cost of goods. You still have to pay off that principle amount.

    Leon

    1. Hi Leon – exactly there is no right or wrong way on this, it all depends on your ways of thinking and lifestyle.

      I agree with your point that some people may use erosion of debt as an excuse -and that would certainly be true on an interest only loan, but when you are paying it off according to the repayment schedule I don’t think it’s as much a big deal.

  3. There is a tax effectiveness factor to consider also.

    Mortgage payments are made using after-tax income.

    Investments made via tax-advantaged pension accounts can potentially be made using before-tax money.

    You pay the tax due eventually, but if your pension income is likely to land you in a lower tax bracket than your working income currently places you, there is potential for arbitrage.

    The key to sustainable retirement is a reliable cash flow. After taxation, housing is many people’s highest outgoing. The removal of that regular expense, by owning a home outright, should hugely improve a person’s cash flow situation. Higher saving rates during the accumulation phase, and reduced living costs during the drawdown phase.

    1. Hi indeedably – and yes, there is tax effectiveness to consider as well for some people if you’d save in a pension instead.

      I’m not really bought into the cashflow is king argument – I’m more the bigger picture number type of gal. Obviously, this is when you can cover your outgoings either way.

      1. There are a multitude of ways to generate cashflow, of which selling down capital is one :-).

        My point was everyone needs cash to pay their bills; a reliable source of that cash to sleep well at night; and a sustainable volume of cash to ensure they don’t run out of money before they run out of time.

        1. I know many people who see their mortgage as being a drain on their cashflow and have opted for 25 year mortgages despite now being in their 30’s and having owned property for maybe 10+ years.
          All this means that instead of paying off their debt they are just rolling it up – and it costs them more in the long run. However, when you speak to them, they think that the lower monthly costs make it cheaper for them.
          That’s the difference funny thing about cashflow – if you ignore where the money is going (interest + capital) you miss the whole picture.

  4. I enjoyed reading this as you’re in a similar but different position to me.
    I owned a flat for 8 years before selling and bought (after 2 years) a family home that we live in now.
    Having a lot of money makes it really easy to get the best mortgage deals – although you might have some fun explaining how you have lots of money – saying that you spend less than you earn and save/invest the difference and over time that can mean you have a high 5 figure deposit (which was still only about 10% of my net worth) can be hard for the “computer says no” mortgage underwriters to understand. Obviously if you a fabulously wealthy overseas kleptocrat, you don’t run the same money laundering checks.

    Anyway, I have a 5 year fixed rate mortgage that costs me around £200 a month in interest + £500 in capital. It’s not a high outgoing. When I remortgaged last year, I made some overpayments into the mortgage and a lump sump to bring the LTV to below 70% and that has me moved to the best rate mortgage with minimal fuss. We were lucky to get the 5 year one we did and it could have easily been 0.2% higher if we hadn’t have acted quickly – which is about £1500 – £2000 over 5 years in interest saved!

    Now I’m repaying again by £250 a month – not much but I think that there is a good chance that it will earn me some brownie points if we decide to move overseas and rent out the house – or take a payment holiday or have it revalued and MEW like crazy! So maybe think about that – even £100 a month might look like your a responsible borrower and lower risk. It’s not much diverted from your investments and investing in your mortgage is as zero risk as you can get – inflation can be whatwever but debt is still debt.

    1. Hey GFF, thanks for sharing. Yeah, I’ve not taken a mortgage out for years, I hear the checks are more enorous nowadays. Although I’ve never had a problem saying to bank staff it’s from savings. I’m blunt enough nowadays to tell them I’m pushing 40 and earning six figures, so what’s the big deal?

      And no, it will not make me look like a better borrower overpaying – that’s not the way credit risks are assessed. Anyway I’m under a third loan to value and mortgage is just 1 x income, so I’m in the good lending risk box anyway.

      1. funny how for some people the mortgage is a huge deal – but if you play your cards right (and don’t have the housestyle inflation that almost everyone I know has consumed) your mortgage can be just a small thing – and in my case, one I could pay off tomorrow if I wanted.

      2. what was particularly annoying about getting the original mortgage was that my wife didn’t have permanent residence at the time and most mortgage providers would not lend – a blanket ban. Overall, the process of getting a mortgage the first time was horrendous but remortgaging was very straightforward and didn’t involve having the house revalued (as they wanted to) and get their best rate (<70% LTV).

  5. I know there will be a strong urge for me to overpay on our mortgage. That’s just how I am with debt, I want it gone!

    But I know the math is not the best in that camp, and that more value and flexibility can be had from saving and investing, moreso than locking it up in our house.

    Still, it is an enormous sum of money to me – ten times the size of my student loan. So will I overpay it at least a little bit? Hell yes. Will it be all of my disposable income? Absolutely not.

    Always nice to hear about different people’s perspective on this!

  6. I chose a different route again. For me, the path to FI looked like getting rid of or minimising bills as much and as soon as possible. I’m not a massive fan of debt – even the strategic use of it – after seeing my parents struggle with managing it. One way or another – there’s an opportunity cost, but numbers obviously vary according to your financial circumstances.

    I saved up and bought our modest house outright in 2012. It worked for us because we had several aborted attempts at finding a location we wanted to settle in and once we found a location, it took about two years to find the right house at the right price.

    Buying immediately reduced our bills by circa £6K/year we were spending on rent. It also reduced our council tax bill as it was a cheaper area and meant we could fit solar panels and so reduce our utility bills. Owning our own place and living in the countryside also meant we started growing some of our own food as well reduce energy bills further with a wood burning stove.

    All of those factors reduced spending and so meant I could massively increase my pension contributions through salary sacrifice. It took only another four years to reach FI.

    1. Hey greencat, I love that approach, and that it’s worked so well for you. And that’s a very good point that buying can so reduce your costs if you buy the right place for you.

  7. If your plan is still to sell the house in a couple of years’ time when you aim to hit FI, then it all comes down to whether you want that bit of leverage to your portfolio (house price plus equities) over a two year horizon. Being a risk seeker, I guess your answer is Yes.

  8. If you have a loan with interest rate that is lower than the rate of inflation – you’re golden. All such loans should be paid off as slowly as possible.

    Which is exactly what you’re doing 🙂

  9. Another really interesting post (and also really interesting comments). I had a psychological thing about wanting to be rid of the mortgage, but as I approached the end I realised that my single minded focus was leaving a lot of ISA allowance on the table As a result it would mean that I would end up doing a lot of tax inefficient saving once it was gone. As a result I delayed a little on fully paying of the mortgage but still knocked it on the head earlier this year.

    In retrospect I wish that I’d gone down your “mortgage neutral” approach so I would have the peace of mind of knowing that I could pay my mortgage if I ever needed to while at the same time taking advantage of my ISAs.

    Having said all of that, like you, I’m very aware that this is all coming from a place of immense privilege. Nuancing the tax efficiency of the decision to pay off a mortgage is an incredibly privileged position in which to find yourself.

    1. Hi Caveman – I agree, it’s fascinating seeing others comments and reactions. It seems a bit of a marmite situation.

      And yes, the use it or lose on the ISA allowance is such a big thing and makes the decision much more of a delicate balancing act.

  10. I’m overpaying not to maximize my returns but to simplify my life. One less thing to think about. Plus it brings me to a lower tax bracket in retirement. If you think you’d get significantly ahead by using your mortgage as leverage then you probably bought too much house.

  11. Your choices make perfect sense. I have never seen such a low interest number on a mortgage! In Iceland we have awful mortgage loans 5-7% interest or with indexation. The Indexation mortgages people had in 2008 multiplied so that very many of them were higher than the value of the house or apartment itself. Now I don’t have a indexed loan but one with 6.6% interest. We plan to refinance to the best deal we can get here which will be 5.6% we are overpaying since the downturn is coming and we want it as low as possible before they raise the interest even further. Icelands economy is very volatile because the currency is small and fluctuates easily.

    1. Hi Greta -I love having an Icelandic reader – that makes me very happy. And nowadays I am starting to understand volatile currencies more and more, as the pound wavers madly.

      And we have quite cheap mortgage rates in the UK at the moment, mine is nothing special. But they are only short term rates and are likely to increase with the base rate in the next few years.

  12. Great post Ms ZiYou. I’ve been working on a similar one myself. It’s not common to overpay on your mortgage in DK, so I’ve never considered doing so myself – I’m actually “underpaying” at the moment…

    The special cirumstances in DK/the world (record low interest levels and below average inflation) actually makes my mortgage a fairly good business at the moment.

    It’s important to factor in your infalation-corrected salary, when you make the assumption that the inflation eats at your loan. This is only true, if your buying power increase more than your real interest rate (real interest rate = interest rate – inflation). If you expect your salary to increase more than 1.2% in the coming years – then yes, inflation will eat at your mortgage 😉

    The avg. inflation in DK the last 10 years is 1.65%. The avg. inflation rate in DK the last 20 years is 1.85%. Our mortgage interest rates are lower than yours though, so it appear that the UK real interest rate is comparable to the DK real interest rates (funny how things work, huh)?

    I’m blessed with a good job in the financial sector, which is very unionized, so I’m more or less certain of an avg. yearly salary increase right around 2%. My current mortgage interest rate is 0.50% (variable-fixed interest loan for 3 years). This means that the value of my loan is going to decrease by 0.50% every year (if we say inflation is ~2%). Explaining this to people is extremely difficult – especially those who believe that debt is a horrible thing to “own” 😉

    If the interest rate:inflation ratio continue to be at these levels for the next 10-20 years, I don’t plan to ever fully pay off my loan. It’s simply not good business to do so. Especially not, since I plan to be mortgage neutral, like yourself sometime within that time frame 😉

    1. Hi Nick – thanks for reading and providing some great info on DK. And yeah, that’s weird that our real interest rates work out about the same!

      And yes, some people really don’t like any sort of debt at all….luckily I’m not one of them! Wishing you good luck on your journey to mortgage neutral – it’s a great place to be!

  13. Congrats on being mortgage neutral. Well done. I assume that takes into account uncrystallised tax liabilities?
    I have significantly more in investments than the balance of my mortgage, but I don’t consider myself mortgage neutral. Because: most of my investments are in pensions, which would be hit by an enormous tax bill, were I to withdraw the funds to settle the mortgage. Ditto shares in taxable accouts for any gains in excess of the CGT allowance.

    1. Hi – yeah I’m mortgage neutral taking into account taxes and non-pension investments – and I’m nearly at the place where I could pay off the mortgage without even raiding my ISA.

      And I keep looking at capital gains and Bed and ISA’ing – but it doesn’t seem worth it yet as I don’t have that much in capital gains.

What do you think?