Flexible friends

However, at least in the mortgage world, miracles don’t exist, and these loans need to be used properly if you are going to get the maximum benefit.

A recent report by financial research company Defaqto says that offset mortgages can cut tax bills and interest payments, but only when viewed as a long-term product and used with a modicum of discipline.

“If offset mortgages are approached as a fundamental part of the borrower’s financial planning process they can offer great benefits,” says David Black, head of banking at Defaqto and author of the report.

“However, they are definitely products for the long-haul and should not be contemplated unless borrowers are fairly certain that they will be able to leave what can be significant sums of money more or less untouched in savings accounts over the mortgage term.”

What are flexible mortgages?

There are three types of flexible mortgages: a standard mortgage with flexible features, offsets and current account mortgages (CAMs). Many mortgage lenders like Nationwide Building Society, Halifax, Cheltenham & Gloucester and Furness BS offer flexible features like over payments or payment holidays on all of their mortgages.

This can be a good option for many because standard loans tend to offer a lower interest rate and just one or two of the most popular flexible features, like overpayments.

Like flexible mortgages, offsets and CAMs also allow you to make extra lump sum or monthly payments, borrow back money, take payment holidays and make underpayments.

But this immense flexibility means discipline is essential, as you can effectively access your mortgage via your current and savings account and easily overspend.

However, a current account mortgage (CAM) merges your various accounts, putting your current and savings account into one pot, so effectively creating one large overdraft.

This structure may seem daunting to some people, and CAMs are nowhere near as popular as the offset mortgage, which works in much the same way but with one crucial difference: it separates your accounts into different pots.

With both offsets and CAMs, if you have a £100,000 mortgage and £20,000 of savings, you will only pay interest on the mortgage balance of £80,000. The flipside of this is that you will earn no interest on your savings.

This can have positive tax implications, especially if you are self-employed and have to save for your tax bill, as interest on savings would normally be taxed as additional income.

Equally, most offsets charge interest on your mortgage loan every day, which means you won’t pay interest on money you’ve already paid back in the form of offset savings.

Who should choose offsets?

So who stands to benefit the most from offsets? Defaqto’s report concluded that they are best suited to higher-rate taxpayers with above-average savings.

But lenders who offer offsets argue that the products have a wider appeal.

Standard Life Bank spokesman Andrew Boddie explains: “Of course the more you can afford to overpay, the better, but every little bit really does help with this sort of mortgage.

Even overpaying £50 a month can have a significant impact if you are disciplined enough to make that a regular payment.” Boddie also points out that offsets can function as an efficient savings vehicle.

“If, for example, you need to save for school fees, that money can be working to reduce your mortgage payments until you need to withdraw it.”

Debbie Milsom, spokeswoman for CAM lender The One Account, agrees. She says: “The fact that 80 per cent of our customers are on track to pay off their mortgages early demonstrates that not only are the CAM features being used, but that the product is not just for the mega-rich or financially savvy, but for normal consumers who all have one common dream – to be mortgage-free. They suit anyone who has the enthusiasm to pay off their mortgage.”

Mortgage advisers also believe offsets are not just for the wealthy.

Ray Boulger at mortgage adviser John Charcol says the level of earnings is a relatively minor consideration. “Far more important is the volatility of your income, creating spare cash that can be offset,” he says.

“With a normal mortgage this money can be used to simply pay off some of your mortgage balance; the advantage with offsets is that these savings are still accessible if you need them.”

Offsets are designed as long-term products, allowing borrowers to avoid the remortgaging merry-go-round of having to change their mortgage every few years.

Because they allow regular overpayments, offsets tend not to have early redemption penalties, a fact that Linda Will, managing director of offset provider Accord Mortgages, says has led to some misuse of offsets.

She says: “Some mortgage advisers are selling them to first-time buyers, because the FTBs avoid early redemption penalties, and can move on to another product at any time. In many cases people are only keeping the mortgage for six months and not using the loans and their benefits the way they are meant to be used.”

She adds: “I believe as few as 30 per cent of offset borrowers use the flexible features to their full advantage. But used properly as a long-term financial management tool, offsets can work very well.”

Be advised

Boulger says borrowers must seek advice before choosing any type of mortgage. “There is no doubt there are people out there with an offset who would be better off with an ordinary mortgage, although the opposite is also true,” he explains.

“For example, if you are only offsetting your salary against your mortgage, you are probably better off choosing a normal mortgage with a lower interest rate. Some providers’ adverts are rather misleading on this point – you need to have regular savings or a high intermittent bank balance to make it worthwhile.”

Offsets are also not ideal for couples where only one person is working. “In this situation you could get a sub-base rate mortgage and the unemployed person could invest up to £100,000 of savings tax-free,” adds Boulger.

But there are a lot of people who do stand to benefit from the flexibility of offsets. “More lenders will enter the market, and interest rates will be driven even closer to those of normal mortgages, making offsets a better choice for more people. At the moment it’s quite difficult to judge if an offset is right for you, so broker advice is essential,” Boulger says.