Martin Lewis' mortgage rule that's already saved one savvy homeowner £35,000

Paying off the mortgage is the goal of every homeowner and after the past few years of interest rate hell, that goal has started to seem more and more distant for many. But there is one "rule of thumb" popularised by finance guru Martin Lewis that has led to some knocking thousands of pounds off their mortgage.

In his weekly Martin Lewis Podcast, the Money Saving Expert founder shared his answer to one of the most common questions he gets from homeowners - Should I be using my money to save or should I be using it to overpay the mortgage? Mr Lewis said readers who have followed his advice have seen "gobsmacking savings" on their mortgages

The answer is not immediately obvious. Currently, some savings accounts offer up to seven per cent interest on deposits, while, depending on the loan-to-value ratio of the mortgage, current interest rates on properties are between 4.3 per cent and 5.9 per cent - leaving many unsure if they are better off saving their money, or paying down their debts.

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Speaking on his podcast, Martin Lewis explained: "The very simple rule of thumb... is if your mortgage rate is higher than you can earn in savings, then overpaying mathematically adds up.

"Let's oversimplify this, if you have £10K in savings earning 4 per cent interest, you are gaining £400 a year. Or, if you were paying tax on your savings because you have gone over the personal savings allowance, you would be earning £320 a year after tax.

"If you took that 10k and used it to overpay your mortgage, and your mortgage rate was at six per cent, then it would save you £600 in interest, so you would be, back of the envelope, £200 a year better off by overpaying your mortgage than saving.

"The big advantage of overpaying your mortgage too is that it reduces the term and you pay interest for a shorter amount of time. It can be incredibly lucrative and there are mortgage calculators online which you can use which will show you the gobsmacking savings from overpaying your mortgage."

A long-time listener wrote to Martin Lewis to thank him for his advice, while sharing his mortgage overpayment success story. They said: "We moved jobs seven years ago and had to buy a small property to use for work purposes. We managed to get a 100 per cent mortgage, though it was expensive.

"We have always listened to you and I set up a small regular overpayment, throw all my overtime money at it, and every day check my bank balance. If there is an odd amount, say I have £1525.36 then that's £25.36 paid towards the mortgage budget depending. We have saved £35,000 in interest and knocked 10 years off our mortgage, which was originally 27 years by doing this.

"We are continuing to plan to get rid of the mortgage altogether ASAP."

"That's the impact that overpaying your mortgage can have, £35,000 of interest."

Martin Lewis' advice and warnings on overpayment

Before overpaying your mortgage, you should check whether there are any penalties for overpayment. This does not necessarily mean you should not overpay, but should be taken into account when deciding whether to save or pay.

Martin Lewis said: "Many lenders will let you overpay 10 per cent of your mortgage balance penalty free, often above that there are penalties which wipes out any gains, so do check."

People who have built up some savings and are about to remortgage could get a considerably better rate on their new mortgage by using their savings to pay down the total loan and completely avoid any early payment fees.

But Mr Lewis warned: "Always keep a cash emergency fund, the fact that you have overpaid or borrowed less on your mortgage or that you're going to take less mortgage, would not stop them saying if you cant pay you're in arrears."

"I would always suggest that you keep 3 to six months' worth of bills money, keep that aside in liquid savings, don't use that to pay off your mortgage."

Martin Lewis had one final piece of advice for people with questions about their mortgage: "If you are making mortgage overpayments, you want it to reduce the term. Some mortgage lenders when you overpay will simply reduce your future payments, you don't want that.

"While it helps your cash flow it still means you'll pay the same amount of interest overall. You want it to reduce the term so you pay your mortgage off quicker - that's where the big savings come from."