Overpay Mortgage or Invest? Your Breakeven Return Rate

Spare cash each month, a mortgage on one side and a stocks and shares ISA on the other. The honest answer is not a rule of thumb, it is a single number: the return your investments must make, after charges, to beat paying the mortgage down early. That number is your mortgage rate, compounded the way the lender charges it, and this calculator works out the rest of it, including how much interest an overpayment kills and what you would be left with either way at the end of the term.

Why the answer is just your mortgage rate

An overpayment does not earn interest, it cancels it. Every pound off the balance is a pound that stops being charged at your mortgage rate for the rest of the term, which makes it a risk-free, tax-free, guaranteed return equal to that rate. Investing has to clear the same bar before it is worth doing instead, and it has to do it after platform fees, after fund charges and after any tax if the money is not in an ISA.

That is why the breakeven the calculator prints comes out at your mortgage rate rather than at some mysterious figure. It prints a fraction above the rate on your statement for one reason: interest charged every month compounds, so a 4.5% mortgage really costs 4.59% over a year, and 4.59% is the annual investment return that would match it. What the rest of the numbers tell you is how much is actually at stake. On a large balance early in a long term, a small monthly overpayment can kill tens of thousands in interest and take years off the end. On a small balance with five years left, the same overpayment saves very little, and the decision hardly matters.

What the comparison holds equal

• The cash. Both routes spend the same amount every month for the whole remaining term, so neither is quietly being given more money than the other.
• The finish line. Both end with the mortgage cleared. In the overpayment route it goes early, and from that month the full payment plus the spare cash is invested, which is where most of that column's final pot comes from.
• The tax. The invested money is assumed to sit in a stocks and shares ISA, so nothing is lost to dividend tax or capital gains tax. Outside an ISA the bar for investing is higher than the figure shown.

The things the numbers cannot settle

• Risk is not a rounding error. The 7% default is a long-run average, not a promise. Markets can be down over ten years. An overpayment cannot be, which is worth real money to anyone who would lose sleep otherwise.
• Overpayments are hard to get back. Money paid off the mortgage is gone unless the lender offers a borrow-back or you remortgage. Money in an ISA can be reached in days. If your emergency fund is thin, that alone settles it.
• A lower loan to value can cut your rate. Overpaying enough to drop a band, say from 85% to 80% of the property value, can win you a cheaper deal at the next remortgage. That saving is on top of the interest the calculator shows.
• Liquidity works the other way too. A big invested pot can repay the mortgage in one go later on, if you want it to. You keep the choice, and you pay for it in uncertainty.
• Offset mortgages change the shape. With an offset, savings sitting against the balance cut the interest without being handed over, which gets you most of the overpayment benefit while keeping the money reachable.

Assumptions and limits

• Repayment mortgages only. Interest-only balances do not fall with the standard payment, so the comparison does not apply.
• One fixed rate for the whole remaining term. Real mortgages reprice every few years, so re-run this when your deal changes.
• Interest is worked out monthly on the outstanding balance. Lenders who calculate daily give slightly different totals.
• The breakeven is quoted as an annual return, with the mortgage rate compounded monthly so the two sides are measured the same way.
• Returns are applied as a smooth monthly rate. Real returns arrive unevenly, which matters more for a lump sum than for monthly contributions.
• Charges are taken off the expected return as a single annual percentage. Fixed pound fees on small pots bite harder than that.
• This is information, not advice. If a large sum is involved, check it with a mortgage broker or a regulated adviser.

Related

• Investment growth calculator: what regular contributions turn into over time.
• Platform fee calculator: the charges figure to put in the box above.
• How much to invest per month and cash ISA vs stocks and shares ISA.
• Compound interest explained: the same force, working for you or against you.