The Lemon Fool

Hi there

I have an mortgage with Scottish Widows of around 300k..... and an offset account with approximately £295, meaning the mortgage amount that interest is payable on is usually less than 5k and interest charges have been typically been around £12-18 a month to date.

The offset was set to reduce the mortgage term.

I recently made a switch in the offset mode so instead of reducing the mortgage term it will now reduce the monthly payments (mainly because I want to maintain a high cash balance in the offset should I ever want to invest the cash elsewhere).

I wasn't expecting this change to make much difference other than obviously not reducing the term.

However I now have an interest charge of £1245 for the month of April that I'm still struggling to get my head around. I've called Scottish Widow and got some confusing message about how changing the option means that there's a delay in applying the benefit of the offset but that still doesn't make a lot of sense.

Surely I should not be landed with £1k of interest within a month regardless of what option I'm selecting for use of the offset?

I'll switch options back quick if this is correct but hoping someone can help me understand what is going on here!

From https://www.scottishwidows.co.uk/bank/m ... s-new.html

Option 2 – Reduced Monthly Payment

With this option, the term of your mortgage remains unchanged, but your monthly mortgage payment is reduced. This is because the offset benefit you earn each month from the savings in your Offset Saver Account is in effect used to reduce how much mortgage interest you pay the following month.

(my highlight)

ie, the offset savings are a month in arrears. Presumably once the mortgage is paid off you'll get the final month's interest paid to you.

From my experience with a Barclays interest only mortgage.

"Interest Saved" is calculated on a daily basis, and then added together on the first day of the next month.
That amount then gets deducted from the standard amount payable, to determine next month's payment.

This means that even if you are offset to zero, you will always end up having to make a payment in March, May, July, and December, because the preceding month has less than 31 days, and the interest saved will always be less than the standard amount payable.

A similar thing happens when the interest rate goes up - the last month's interest saved will not cover the increased standard amount payable.

When the mortgage rate goes down, the interest saved will exceed the new standard amount payable -

In summary:
- if you have an interest only mortgage, select "reduce payment" and offset to zero, don't cancel your direct debit, because the monthly payment isn't always zero.
- If you are offset to zero, you need to keep tabs on what your mortgage balance is, as it will almost certainly be going down, and the amount required to offset to zero is reduced, and any excess won't be earning any interest

PochiSoldi

My offset mortgage is with First Direct. It’s interest-only so is beautifully simple. It just works like a big overdraft and the interest is a simple function of the net balance (zero nearly all the time).