Mortages can beat the inflation trap using mortgage offset accounts
20/01/2012 
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Mortgage offset accounts give you a far better [effective] rate of return, and a rate of return above inflation.
Savings accounts in effect lose you money, but an offset home loan can give you a return of 9 per cent, says Clare Francis.
Not one bank is paying a positive return on its standard savings accounts after higher-rate tax and inflation but you can earn about 9 per cent using an offset mortgage [effective].
Inflation measured by the government preferred consumer prices index is at 3.1 per cent, its highest level since the measure was introduced in 1997. The retail prices index has leapt to 4.8 per cent Savers must earn more than this or the cost of living will erode the value of their cash and thats before tax. Someone in the higher-rate band needs to earn at least 8 per cent before tax to generate a positive real rate of return, while people in the basic-rate bracket need at least 6 per cent. The highest-paying easy-access account has a rate of 5.81 per cent, so taxpayers are losing money.
As a solution to this inflation trap, advisers are recommending offset mortgages.
The loans work by setting your savings against your borrowings. Instead of earning interest on your savings, the money in effect reduces the size of your overall mortgage, so you pay less interest. Rather than earning money, you save it.
If you had a £100,000 mortgage and £30,000 in savings, you would pay interest on only £70,000 of the loan. Offsets have another big attraction: they are tax-efficient. Because you do not earn any interest on your savings, you pay no income tax on them.
Hinckley & Rugby building society has an offset that charges 0.15 points above Bank rate for the term of the loan, giving a current pay rate of 5.4 per cent. This is equivalent to a higher-rate taxpayer earning 9 per cent from their savings, or 6.75 per cent for someone in the basic tax bracket.
The rates on offset loans had, until recently, been about one percentage point higher than those on standard mortgages. Consequently, offsetting was only worthwhile for those with large amounts in savings. However, competition in the market has forced rates down so the difference between offsets and standard loans is now much less.
The best standard lifetime tracker is 0.08 points above Bank rate, compared with Hinckley & Rugbys offset at 0.15 points above.
David Hollingworth at L&C Mortgages, a broker, said: The rates on offset mortgages, while having come down over the past couple of years, still tend to be slightly higher than those on standard deals. The choice is also more limited with offset products, so they may not be the best option for everyone.â€
Intelligent Finance (IF) has several two-year trackers available exclusively through different brokers. L&C has a version that is 0.36 points below Bank rate, currently 4.89 per cent, with a £1,999 arrangement fee. John Charcols deal is launching this week at 0.26 points below Bank rate 4.99 per cent with a £1,695 fee.
The rates on these products are only slightly higher than the best standard two-year tracker on the market, which is 4.74 per cent from BM Solutions. The fee on this loan is £1,499.
Someone borrowing £250,000 on an interest-only basis would pay £987.50 a month with BM Solutions compared with £1,018.75 with the IF tracker from L&C.
Over the two-year term, the IF deal would be £1,250 more expensive once the arrangement fee was factored in. However, this assumes the borrower has no savings. If they offset £50,000 of savings, the IF product would actually save them £3,640 over the two years.
Ray Boulger at John Charcol said: An increasing number of people could benefit from offsetting, but the main exception is a couple where one is a nonearner. In this instance, they may be better off going for a standard mortgage and putting their savings in a good savings account in the name of the nonearner because he or she will not be taxed on the interest.
Rick Adlam has been helping clients with home loan finance since 1985 when he was home consultant with AV Jennings. Rick started Equity Home Loans in 1996 to help homeowners become property investors. Rick currently consults in the development of Mr Mortgage for mortgage brokers and HomeMate for new home buyers.
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