Overpaying at the start - good/bad idea?

A

Apollo

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Hi,

I am in the process of taking out a mortgage and am cosidering, in an effort to reduce the term, overpaying right from the word go.

However I once read, possibly in one Eddie Hobbs' books I can't remember exactly, that it is crazy to overpay at the start as the interest portion of the repayment is so high it will swallow up all of ones efforts.

Is this true?

If so what is the best way to structure regular repayments so as to reduce the term & ultimately the interest paid as I have spare cash to this? Should I hold off on overpaying for the first 2/3 years?

Thanks in advance.
 
You may well be paying off a large amount of the interest portion, but it's interest that you are going to have to pay in any event!
(I believe you can request overpayments to go against the capital amount when they are made)

The earlier you make overpayments the more interest you are saving over the life of the mortgage. Starting as early as you can afford too should provide the greatest saving.

Check out the effect of payments using one of the many mortgage calculators available (Jeacle mortgage calc for example).
 
Cheers Satanta.

But even given your above scenario you outlined advocating overpaying at the early stages does it not hold that paying for example €500 extra/month starting 3/4 years down the line when your wages have naturally increased - & remember the original loan amount is now that bit smaller compared to your wages - will go further into the the capital(& reduce it quicker) than by overpaying it right away?
 
Apollo said:
....paying for example €500 extra/month starting 3/4 years down the line when your wages have naturally increased - & remember the original loan amount is now that bit smaller compared to your wages - will go further into the the capital(& reduce it quicker) than by overpaying it right away?
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To make the largest possible savings on the total cost of the loan, the earlier you start the better (you save on 30 years interest instead of 24 years interest) [obviously not taking into account other routes of investment which may provide higher returns than mortgage savings provide*].

If your wage increases in the future, the mortgage will be even smaller [compared to the smaller you mentioned above :p ] compared to your wage given that you've reduced interest over 30/25/whatever years by making early overpayments (30 years interest @ 4.xx [+/- depending on what way rates go]). You can then make the €500 overpayments to reduce it even further still!

Basically, to reduce the total cost of the mortgage, throw every penny you have at it as early as you can afford to. Now, that isn't practical. I'm not suggesting it is, but it is the way to reduce the total cost of the mortgage.

Other options have to be looked at.

Can you achieve a better return than the mortgage reduction? (an interesting thread by Ronaldo on *using regular monthly saving rates to outperform mortgage savings - have a search for it)
Is it worth the saving given the sacrafice in quality of life? (as you say, payments down the line will be compensated by inflation in wages where now you [may] have to skimp to afford them)
What way will rates go? (They may rise or fall, who knows)
Can you depend on job security and future higher/inflated wages? (none of us can guarantee that)


There are a million other questions which can be thrown up here. It all depends on your personal attitude/risk/wants/needs/opinions. What is right for one person may not be right for the next. There is no right or wrong answer, just what you feel is suitable for you.
 
Cheers Satanta for that comprehensive response - your right in what you say too I think.

Go easy.
 
Apollo said:
Cheers Satanta for that comprehensive response - your right in what you say too I think.
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To be honest, I haven't really said anything :p

http://www.askaboutmoney.com/showthread.php?t=41329
http://www.askaboutmoney.com/showthread.php?t=41034
http://www.askaboutmoney.com/showthread.php?t=43018

Here is some lateral thinking on potential mortgage savings. Not suggesting any of them for your situation (most of Ronaldos threads are based on looking at LTVs <50%), I just enjoy looking through them and feel it may be of interest (the info on the regular savings accounts may be valuable).
 
Hi,
How about you open a regular savings account and put the excess money there. At the end of each 12 month period you could make a lump sum payment against the capital amount of the mortgage thus reducing the term. This way if for some reason you need some money during the year you have a bit put by, you also see a possibly significant difference in the term at this stage (eg I made a query recently that if I were to pay 10k of the capital of my mortgage how would it affect the term and it would reduce by almost 5 yrs.) You would also have the benefit of the interest from the regular savings acount however small this amount may be.
​
 
Apollo said:
However I once read, possibly in one Eddie Hobbs' books I can't remember exactly, that it is crazy to overpay at the start as the interest portion of the repayment is so high it will swallow up all of ones efforts.
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Any payments over and above your normal monthly repayment can be used to reduce the capital outstanding. Use Karl Jeacle's mortgage calculator to estimate the potential savings attributable to an accelerated repayment strategy.
 
There's been some strange comments re interest and capital by both Satanta and Apollo.

Just to clear up. If you pay extra mortgage it comes off the capital. It's a mathematical impossibility that it would be coming off the interest.

The earlier you make extra payments the quicker the mortgage is paid off, and the lower the overall interest charges. Again this is mathematical.

It is true that a larger % of your initial repayments go to servicing the interest than paying off the capital. That's because the principal owed near the start is greater than the principal owed later in the mortgage and the interest is always a % (e.g 4.7%) of the principal owed in a particular month.

I think Eddie's comments have been a little misinterpreted. Generally he advocates paying off debt that attacts higher percentages (such as Credit Card or Personal Loans) before paying of mortgage debt which is at a considerably lower rate. This makes sense. Also contributing to a pension at full tax relieve generally makes more sense (if the pension fund is performing well, i.e. > mortgage rate of circa 5%) than paying off mortgage.
 
robd said:
Just to clear up. If you pay extra mortgage it comes off the capital. It's a mathematical impossibility that it would be coming off the interest.
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Try searching the forum for previous threads on this topic.

Not all banks put overpayments against capital straight away unless instructed to do so (even then make sure the instruction is in writing as it isn't always adhered too), some leave it sitting as a credit on the account meaning no savings are made.
 
In addition, note that most lenders will not automatically reduce the term irrespective of any overpayments you make. Therefore if you are paying regular additional sums in, while they will maintain the "base payment" at constant interest rates, on change in interest rates they will recalculate the payment based on current outstanding capital and the original maturity date. This means that when the rates change, if you wish to retain the "reduced" term, you will almost certainly have to contact them to reset the maturity date; alternatively you can reset the notional overpayment, or simply require them to take a fixed payment until further notice (assuming that rate changes will not have your payment exceeding the "fixed payment") with all overpayments being applied to reduce the capital balance. The latter approach will maximise your flexibility should you have unforeseen financial demands.

Similar caveats may apply where you make once off lump sum payments: your regular payments may be recalculated to spread over the original term unless you specifically instruct that the term be reduced.
 
Dreamerb said:
Not as such - they basically hold it in a suspense account, which is of no value to you.
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For example as a reserve fund to be used to pay the monthly repayments if you happened to miss them. You generally want to avoid this unless you are on an offset/current account mortgage.
 
How do you know which bank uses a suspense account and still charges interest in full and which credits your mortgage account to reduce the interest due?
I've dealt with a building society where the option was to either reduce the principal with the effect of reducing the term or the monthly payments (my choice) or to credit the account which reduced the interest charged so long as I held the money there.
 
DirtyH2O said:
How do you know which bank uses a suspense account and still charges interest in full and which credits your mortgage account to reduce the interest due?
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Ask! Or simply accompany any overpayment with a clear written instruction / put a standard instruction on your account on how periodic overpayments should be dealt with.
 
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