Should High Earners Overpay Their Mortgage or Invest Amidst Falling Interest Rates?

Interest rates in the UK are expected to fall to around 3% by the end of 2026. For high earners with mortgages, this shift raises a common question: is it better to overpay the mortgage or invest the difference? With mortgage rates coming down and stock market uncertainty still present, deciding where to put your extra money can feel tricky. I want to share some insights and practical considerations to help you make a clearer choice.

UK suburban house with mortgage sign

Understanding the Impact of Falling Mortgage Rates

Mortgage rates have a direct impact on the cost of borrowing. When rates drop, the interest portion of your monthly payment shrinks, meaning you pay less over time if you keep the same loan balance. For high earners, this can change the appeal of overpaying your mortgage.

• Lower mortgage rates reduce the benefit of overpaying

When mortgage rates are high, overpaying can save you a significant amount in interest. But as rates fall, the interest saved by overpaying shrinks. For example, if your mortgage rate drops from 5% to 3%, the interest saved by paying off early is less than before.

• Flexibility matters

Overpaying your mortgage locks your money into your home. If rates fall, you might want to keep cash liquid or invest elsewhere. Some mortgages allow you to take back overpayments later, but not all do.

The Case for Investing the Difference

Investing extra money instead of overpaying your mortgage can offer higher returns, but it comes with risks. The stock market can be volatile, and uncertainty remains high in 2024.

• Potential for higher returns

Historically, stock markets have returned more than mortgage rates over the long term. If mortgage rates fall to 3%, investing in a diversified portfolio could yield 5% or more annually, after inflation.

• Risk and timing

Investing is not guaranteed. Market dips can reduce your portfolio value, especially if you need to access funds soon. High earners often have a longer investment horizon, which can help ride out volatility.

• Tax considerations

High earners may face higher taxes on investment income. Using tax-efficient accounts like ISAs or pensions can improve net returns.

When Overpaying Your Mortgage Makes Sense

Even with falling mortgage rates, overpaying can be a smart move in certain situations:

• You dislike debt and want peace of mind

Some high earners prefer the security of owning their home outright sooner. This reduces monthly obligations and can improve cash flow in retirement.

• Your mortgage rate is higher than expected future rates

If your current mortgage rate is above 3%, overpaying now can lock in savings before rates drop.

• You have no other high-interest debt

Overpaying makes less sense if you carry credit card or personal loan debt with higher rates.

• You want to reduce exposure to market risk

If you are risk-averse or nearing retirement, reducing debt can be a safer financial strategy.

When Investing the Difference Is More Advantageous

Consider investing if you meet these criteria:

• You have a low mortgage rate locked in

With mortgage rates near 3%, investing could generate better returns over time.

• You have a long investment horizon

If you plan to invest for 10 years or more, you can better withstand market ups and downs.

• You have a well-diversified portfolio

Spreading investments across stocks, bonds, and other assets reduces risk.

• You use tax-efficient investment accounts

Maximizing ISAs and pensions helps keep more of your returns.

Practical Steps to Decide What’s Right for You

1. Calculate your mortgage interest savings

   Use an online mortgage overpayment calculator to see how much interest you save by paying extra.

   
   

2. Estimate potential investment returns

   Look at historical returns for diversified portfolios but remember past performance is not a guarantee.

   
   

3. Assess your risk tolerance

   Be honest about how much market volatility you can handle.

   
   

4. Consider your financial goals

   Are you aiming for early retirement, paying off your home, or building wealth?

   
   

5. Review your mortgage terms

   Check if overpayments are flexible or if there are penalties.

   
   

6. Consult a financial advisor

   Personalized advice can help balance your mortgage and investment strategy.

   
   

Example Scenario

Imagine you have a £500,000 mortgage at 4.5% fixed for 5 years. You earn £150,000 annually and have an extra £1,000 per month to allocate.

• Overpaying your mortgage by £1,000 monthly could save around £30,000 in interest over the next five years.

• Investing £1,000 monthly in a diversified portfolio averaging 6% annual return could grow to approximately £70,000 in five years.

• However, investing carries risk, and market downturns could reduce returns.

  
  

This example shows investing may offer higher growth, but overpaying provides guaranteed savings and reduced debt.

Balancing Both Strategies

You don’t have to choose one or the other. Many high earners split their extra money between mortgage overpayments and investments. This approach offers:

• Debt reduction and interest savings

• Growth potential from investments

• Flexibility to adjust based on market conditions

  
  

Final Thoughts

With UK mortgage rates expected to fall to around 3% by 2026, high earners face a nuanced choice. Overpaying your mortgage guarantees savings and reduces debt but offers lower returns when rates are low. Investing the difference can grow your wealth faster but involves risk and requires a longer time horizon.