Making the most of your mortgage

Paying extra off your mortgage can make more sense than saving or investing in the current climate, writes Laura Slattery

The thought of being in debt for 30 years can be difficult to get your head around when you might not even have lived that long. Mortgages are a hefty financial commitment for most people. For first-time buyers, they are positively intimidating, and the bad news is they're getting bigger, longer and more complex.

Over the past decade, property prices have risen so high that, for many first-time buyers, there is only one way to afford a mortgage that meets Central Bank lending criteria and buys more than a prefab with a parking space in the middle of a flood plain - repaying the amount borrowed over 30 years, rather than 20 or 25.

Add to this the growing popularity of equity-release products, where homeowners come back to borrow more against the increased value of their home, and mortgages seem more like a never-ending, all-purpose pool of debt rather than a means to the sole end of owning the roof over your head. However, homeowners with even a little bit of cash to spare can always take a pro-active approach to paying off their mortgage, rather than simply playing by bank rules.

Interest rates on borrowing are now relatively low, so the incentive to pay off the mortgage in as short a time as possible might not be as strong as it was, say, 10 years ago.

But even without the current "geo-political uncertainty" - the term economists use to describe how a war with Iraq could affect your mortgage repayment - no-one can foresee whether a low-interest environment will prevail in 10, 15 or 20 years.

"I think the psychology of it is that people want to pay off debt as quickly as possible," says Ms Sarah Wellband, associate director of mortgage advisers REA. "People realise that interest rates aren't going to stay at that level forever."

It certainly makes little sense to save or invest while you have a six-figure loan secured on your house at a time when interest on deposit accounts range from paltry to non-existent and the investment market is laden with insecurity.

The last round of interest rate cuts said it all: your mortgage account should be the first home for a lump sum. Banks are more likely to pass on the full extent of the European Central Bank's rate cuts to savers rather than borrowers.

If you're on a standard variable-rate mortgage, lenders cannot charge a penalty either on small lump sums or regular overpayments.

However, some lenders require that lump sum overpayments meet a minimal amount such as €500 or €1,000, according to Ms Wellband.

A homeowner with a mortgage of €200,000 over 30 years has monthly repayments of around €920 and will pay total interest repayments of €130,500, based on a standard variable rate of 3.68 per cent, the most competitive available on the market.

If such a homeowner makes a lump-sum repayment of €5,000 five years into the mortgage, they will shorten their mortgage term by one year and one month and pay total interest of €123,300 - a saving of €7,200. Even if you take inflation into account at the current high rate of 5.1 per cent, this amounts to a real saving of €2,900.

If your earning power and budgeting skills prevent you from building up a lump sum, regular overpayments might be a more attractive option.

"A lot of people ask us if they can pay more than the minimal amount and the answer is obviously yes," says Ms Wellband.

Property finance firm Simply Mortgages has indicated that homeowners could knock years off their mortgage for the cost of one night out a month.

A mortgage holder with a loan of €200,000 over 30 years on a rate of 3.68 per cent could shorten their mortgage term by five years and two months, if they start overpaying by €150 a month from the sixth year of the mortgage. A monthly overpayment of just €50 beginning three years into the mortgage will see the term decrease by two years and three months.

Last week, National Irish Bank (NIB) suggested that homeowners who smoke could turn their "ash into cash" by giving up the habit. A reformed 20-a-day smoker with a €100,000 mortgage over 20 years could put an extra €40.60 a week into their mortgage, according to NIB, saving €14,000 on interest and paying off the loan almost six years early.

If you don't feel like your social life or your addictions are valid targets for cuts in the household budget, a less painful way to clear the debt might be to direct any unexpected pay rises into your mortgage account. Another small but significant step is to ask: "ECB cuts? What ECB cuts?" An 0.25 per cent cut in the interest rates isn't too much to shout about in the short term but it's the long-term savings that count.

At IIB, one of the few lenders to pass the rate cut on in full to borrowers, the standard variable rate moved from 4.2 per cent to 3.95 per cent. Monthly repayments on a €150,000 mortgage over 25 years at the higher rate are €808.50. On the new rate of 3.95 per cent, they are €787.50, a monthly saving of €21.

You could use that money to get a round in at the pub, or you could just ring your lender and ask to keep your monthly repayments at existing levels.

Figures by Simply Mortgages show that a person with a 25-year €150,000 mortgage will save €10,500 in interest repayments and reduce the term of their mortgage loan by more than a year if they ignore the ECB rate cut and maintain their repayment level. Suddenly, €21 a month doesn't seem like too big a sacrifice to make.

"There is evidence knocking around that people are ringing their lenders and asking them to leave their direct debits alone," says Mr Peter Bastable, managing director of Simply Mortgages. Homeowners have "a real opportunity" to make lower interest rates work for them, he believes.

If they don't, growth in the equity-release market may come to an end sooner rather than later, Mr Bastable argues.

"A lot of people move into houses they don't intend staying in. They may have bought a house for €200,000, that's worth €250,000 now and they can use that €50,000 equity to move," he says.

But property prices are unlikely to rise by such dramatic percentages as they have done in recent years, he notes. To build equity, homeowners will have to make bigger dents in their mortgages to compensate for the smaller rises in their homes' value or they may find themselves staying put for the duration.