Q. We recently received a substantial six-figure inheritance from my wife’s father, and we’re currently weighing our options on how to utilize it. While we don’t wish to pay off the mortgage just yet, we’re also hesitant to invest the funds immediately due to potential future needs. As we’re approaching the remortgage period early next year, we’re considering whether an offset mortgage would be a suitable choice. Given the current interest rate landscape, is this advisable? James, Horsham

It’s prudent that you are thoughtfully evaluating your options regarding the significant inheritance you’ve received. The mortgage landscape has faced challenges in recent years, so it’s understandable that this decision weighs on your mind.

An offset mortgage connects a savings account to your mortgage, typically with the same lender. Instead of accruing interest on your savings, that money is applied to reduce your mortgage balance, which, in turn, lowers the interest you owe on your loan. For instance, with a mortgage of £250,000 and savings of £200,000, you would only pay interest on £50,000 of your mortgage. However, remember that you won’t earn interest on your savings in this arrangement.

Offset mortgages may vary among lenders. Some may maintain consistent monthly payments even when you have funds in the offset account, which can help pay down your mortgage balance more quickly since a greater portion of your payment goes toward the principal rather than interest. Conversely, some lenders might require notification at the end of each month concerning any increases in your savings to accommodate the new offset amount. Certain lenders also allow you to offset your ISAs against your mortgage, though they generally offer variable rates.

Offset mortgage rates can be variable but often come fixed for a period of two to five years.

Advantages of Offset Mortgages

Offset mortgages present several advantages. One key benefit is the potential savings on mortgage interest costs, which can exceed what you might typically earn through savings interest.

Another appealing aspect is the flexibility; you can access your savings when necessary, which is crucial for your current considerations.

There’s also some tax efficiency associated with offset mortgages. Interest earned on savings is subject to tax, whereas using those savings to reduce your mortgage interest means you won’t incur any tax on the savings from interest.

Disadvantages of an Offset

However, offset mortgages may not be suitable for everyone. Alongside the fact that you won’t earn interest on your savings, offset mortgages often come with higher interest rates compared to conventional mortgages, as lenders typically charge extra for the offset features.

Moreover, fewer lenders provide these products, and most require both your mortgage and savings to be held with them, limiting your options.

Evaluating Your Choices

Consider the size of both your mortgage and savings. Since offset mortgage rates tend to be higher, you usually need a considerable amount of offset savings to come out ahead.

It’s advisable to calculate the lowest standard mortgage rate you’re eligible for and compare it with potential interest earnings from the best savings accounts versus what you could save in interest with an offset mortgage.

Given the amount of your inheritance, I recommend reflecting on your financial aspirations. If liquidity and flexibility are paramount, an offset mortgage could be a fitting option. Review the terms and conditions set by the lender, as features can differ widely. Ensure that their offerings align with your personal financial situation.

Since you prefer to keep your funds accessible rather than make immediate investments, an offset mortgage seems to be an appropriate alternative for you. However, consulting with a financial advisor may provide you with valuable insights to ensure this aligns with your broader financial strategy.

Adrian Anderson has two decades of experience in the mortgage industry and is the founder and managing director of Anderson Harris Brokers.