Deposit account vs chipping a bit off the mortgage

Sklarker

I have a lump sum of €X0,000 which I have been circulating through deposit accounts for years. It has just matured yet again. Deposit rates are lousy at the moment so I am thinking of getting it done with and just throwing it onto the mortgage. Is this a bad idea? I was thinking it might be good to reduce the monthly burden rather than shortening the term of the mortgage. Has anyone done this and regretted it?

Fitz123

Do you have a tracker mortgage ? i.e. can you earn more after DIRT than you pay in interest on your mortgage ?

kavanada

Exactly.

OP, what is your mortgage rate? 1%? 5%?

If you're on a tracker of .5% above the ECB, keep your lump sum on deposit. The interest from your lump sum will be greater than the interest saving you'd make from a shorter mortgage term. If your mortgage is one of those killer variable rates of 4-5% throw it at the capital.

Let us know what your mortgage rate is and what kind of deposit rates you've been getting over the last year or two and what you can get now.

Either way, lucky you!!

Sklarker

Hi. I have a Standard Variable Rate Mortgage. Payments are close to the highest they have been since I took out the mortgage 10 years ago. Previously I have gotten over 3%, and as high as 5% deposit rates but looks like rates are below 2% at the moment

Fitz123

In that case, I'd lop a portion of your funds on deposit against your mortgage to reduce payments. I'd hold some back in case you need funds for unforeseen emergencies.

Sklarker

Fitz123 wrote: »

In that case, I'd lop a portion of your funds on deposit against your mortgage to reduce payments. I'd hold some back in case you need funds for unforeseen emergencies.

Yep sounds sensible. Cheers for the advice folks

gordongekko

Have you a rainy day fund?

kavanada

Yes Sklarker. If that's the case, I'd put a portion of the lump sum towards the mortgage capital, put another portion on deposit (like a regular monthly saver where it's locked away for 12 months etc) and another portion on deposit in an instant access account for emergencies.

It's always good to have cash to hand, naturally.

Just one thing about the mortgage interest rates. When the ECB rate goes up again in a few years, you'll need to have extra money to hand to meet your increased repayment. Any money you 'overpaid' now will not be taken into account so strictly speaking you could fall into arrears in the future if you're income can't meet those higher repayments. Hence, keeping some extra cash to hand.

Sklarker

gordongekko wrote: »

Have you a rainy day fund?

It's kinda wrapped up in the lump! I may keep a bit and maybe put into Rabobank.

Sklarker

kavanada wrote: »

Yes Sklarker. If that's the case, I'd put a portion of the lump sum towards the mortgage capital, put another portion on deposit (like a regular monthly saver where it's locked away for 12 months etc) and another portion on deposit in an instant access account for emergencies.

It's always good to have cash to hand, naturally.

Just one thing about the mortgage interest rates. When the ECB rate goes up again in a few years, you'll need to have extra money to hand to meet your increased repayment. Any money you 'overpaid' now will not be taken into account so strictly speaking you could fall into arrears in the future if you're income can't meet those higher repayments. Hence, keeping some extra cash to hand.

Cheers Kavanada. I guess that's the crux of it. Once it's ploughed in it's 'gone'. I'm unlikely to ever have that much again
I guess splitting it makes sense

Dardania

kavanada wrote: »

Just one thing about the mortgage interest rates. When the ECB rate goes up again in a few years, you'll need to have extra money to hand to meet your increased repayment. Any money you 'overpaid' now will not be taken into account so strictly speaking you could fall into arrears in the future if you're income can't meet those higher repayments. Hence, keeping some extra cash to hand.

Why's that? Is the interest calculated on the original principle?
Not that I'm surprised at banks being greedy, but this one does sound vicious...

kavanada

Another thing, Sklarker.

If and when you do put some of the lump sum into the mortgage, make sure you state clearly to the bank in the cover letter that you are putting the money in so as to reduce the term of the mortgage and not to reduce the monthly repayment.

To reduce the monthly repayment but continue with the original length of the mortgage will negate any financial savings made by putting in the lump sum.

Just tell your branch manager what you want and they should help you.

Sklarker

kavanada wrote: »

Another thing, Sklarker.

If and when you do put some of the lump sum into the mortgage, make sure you state clearly to the bank in the cover letter that you are putting the money in so as to reduce the term of the mortgage and not to reduce the monthly repayment.

To reduce the monthly repayment but continue with the original length of the mortgage will negate any financial savings made by putting in the lump sum.

Just tell your branch manager what you want and they should help you.

Oh. So basically, in terms of interest, it doesn't really matter HOW I pay it back, but rather WHEN I pay it (completely) off. Would there be no benefit if I reduced my monthly payment from, say, €1000 to, say, €750 but kept the term the same?

kavanada

@ dardania:

Say €200,000 over 25 yrs gives a repayment of €1,000pm. That'll be the contract you sign. There will be clauses about over-payments and whether they are free (variable rate mortgages) or have a cost (fixed rate mortgage)

If the mortgage holder decides to overpay with a lump sum of say €20,000 but continue to repay the agreed monthly amount, the net effect is that the mortgage is paid off early. But the key is that the terms of the loan, I.e. the repayment amount, are not re-negotiated.

If after 5 years you throw in €20,000 against the capital and then 10 years later you can't meet the contracted monthly amount, you end up falling into arrears. The €20,000 lump is not seen as a 'buffer' before falling into arrears.

You're only option is to have you're mortgage contract 're-negotiated' to say, €500 pm over the next 25 years. The downside is you were already 15 years in to a 25 year term and you now have a missed repayment on your Credit Score with the Irish Credit Bureau. That has further complications for you if you try looking for credit from other companies like credit cards, car loan even store credit on a new sofa or big tv.

If you had that €20,000 to hand, you could use it to top up the now higher monthly repayment.

The key is to split your lump as best you can. It's a guessing game. But an educated one.

Hope that answered the question.

kavanada

@ Sklarker:

Yeah. Generally speaking, you pay back double what you borrow on a 25yr mortgage. So €200,000 will cost you about €400,000 in repayments.

However, by adding your lump sum of say €20,000 and maintaining your current monthly repayment, you'll probably cut a good 2 to 3 years off the term.

The €20,000 off the capital will save you about €40,000 in repayments (i.e. double) €40,000 equates to about 1 tenth of the repayment figure. 1 tenth of 25 years is 2 years 6 months, obviously.

The key is not to pay off lump sums when your mortgage rate is very low and your deposit rate is higher. Your case is now high mortgage rate and low deposit rate. By 'cannibalising' your mortgage capital down quicker, you reduce your exposure to higher interest repayments.

Interest repayments are like swimming against the current. It's dead money. It eats up a large part of the monthly repayment first thereby reducing the ability of your monthly repayment to eat into the capital amount.

So, basically, if you can afford to maintain your current monthly repayment AFTER you throw in your lump sum, do so.
To do otherwise, you will just end up paying more interest over the remaining term.

Sklarker

Thanks a lot Kavanada. Appreciated!

gordongekko

Just beware I know a few people who paid a lump sum off their mortgage and maintained the original repayments and therefore reducing the term. However their circumstances have now changed and the they are having major problems getting the bank to lengthen the term back to the original term.

If they have not paid off the money they would have lower repayments and access to the money.

kavanada

@ gordongekko:

That's right. Once you hand over the money, it's gone.

The only way to see it or access it again is to re-negotiate the terms (capital, interest rate, repayment term, other various clauses) of the mortgage contract with the bank. Who wants to do that nowadays?

They'd have you over a barrel. And that's IF they want to discuss the issue with you. They'd rather hold onto your lump sum for their own cash flow.

OP, good luck, whatever way you divvy it up!!