Overpaying on your mortgage
As landlords move into the New Year with interest rates at historic low levels; many of us are worrying how long rates at these levels can last.
Latest reports from ‘This is money’ indicate that rates are likely to stay low for some time.
However the Jury is still out. Some commentators are even hinting that with inflation on the march; interest rates could hit 8% within 2 years. Landlords obviously shudder at the thought of this.
One certainty is that at some stage in the next couple of years, as economic recovery takes hold, interest rates along with landlord’s mortgage repayments will have to rise steeply. At this point many landlords will be faced with a scenario of disappearing rental profits or even the dreaded rental loss once again. The question is should landlords use the low interest rate environment to make overpayments.
Many landlords who have made considerable rental profits over the last few years will be sitting on significant cash balances; so what should they do with them?
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Overpayments the figures
How would a landlord fair by overpaying on their buy-to-let mortgage? There are several potential options when considering over paying your buy-to-let mortgage. We examine the options from making a single lump sum repayment to swapping to a repayment buy-to-let mortgage.
Lump sum payment
Take the example of where a landlord has a single lump sum of say £10,000. The landlord has an existing buy-to-let mortgage of £160,000 with 20 years remaining. They are paying 2.25% (base + 1.75%) by reducing it by £10,000 then this would reduce the size of their outstanding mortgage to £150,000 and save £4500 in interest payments over the term or the annual equivalent of £225 per year. Not a great deal. However, if base rates were to rise to 5% the savings would jump to a massive £13,500 or £675 per annum.
If a landlord decides instead to make regular overpayments how will that affect their buy-to-let finances? Take the example of a landlord with a property with an outstanding £250,000 loan and 22 years remaining on her buy-to-let mortgage. At the moment she is on a pay rate of 2.25% (base rate + 1.75%). If she over pays by £100 per month she would reduce her balance by £26,400 by the end of the 22 year mortgage term and save £6559 in mortgage interest. A significant saving.
Lenders and overpayments
The attitude of buy-to-let lenders to overpayments varies considerably. Some will not allow overpayments whilst others will sanction overpayments of up to 5% per annum. Property Hawk mortgage consultants research shows that the most common rule of buy-to-let lenders is that 10% overpayments are allowed per annum.
Some of the lenders will allow overpayments on a rate specific basis, with a handful of lenders still not allowing overpayments at all. There are some lenders who will allow unlimited overpayments. In terms of current mortgages TMW, Principality, Godiva, Leeds and Nottingham currently offer term or 1 year trackers with no Early Repayment Charge which means that a landlord can overpay more than the lender’s existing overpayment threshold without incurring a penalty.
Andy Young at Property Hawk Mortgages says: ‘Buy-to-let lenders vary in their approach to overpayments on interest-only mortgages, so landlords looking for a flexible approach to increasing the equity in their properties should check with the lender before applying for a mortgage.’
Swapping to repayment mortgage
One of the traditional ways of ensuring that a landlord is safeguarded against fluctuating property prices and repays the outstanding capital sum is to have a repayment mortgage. Some landlords who have an interest only buy-to-let mortgage might want to consider swapping to a traditional repayment model.
The attitude of lenders to this again varies depending on the lender. Some will swap the type over for just the payment of an administration fee.
The case against
Overpayment of a landlord’s mortgage is definitely a defensive move. It’s a case of shoring up finances at a time of financial uncertainty. However, the opportunity cost of this course of action is that a landlord uses up their cash flow and liquid assets at a time when many pundits would argue that property bargains and investment opportunities are available.
For more bullish landlords who are prepared to look to expand; they may consider that their cash resources are better used in expanding their portfolio.
Only time will tell as who has it right…. the bulls or the property bears,
………signing off, the property hawk.