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tatty

Interest Only As Opposed To Repayment

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I went through with the purchase of a house I was looking at (circumstances rather than change of market opinion). I did ask this question a couple of months ago but the answers I got didn't really make sense.

Here's the crux of the question:

I've got a good pension that i'm contributing to with 40% tax relief. I will be able to commute a sizeable lump sum when I retire (again tax free). In addition inflation will (slowly) erode the value of the capital repayment at the end of the term. If I take the repayment option i'll be using taxed income at todays values (if you get my drift).

Is it not the case that i'm better off taking the IO option?

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I've got a good pension that i'm contributing to with 40% tax relief. I will be able to commute a sizeable lump sum when I retire (again tax free). In addition inflation will (slowly) erode the value of the capital repayment at the end of the term. If I take the repayment option i'll be using taxed income at todays values (if you get my drift).

Is it not the case that i'm better off taking the IO option?

Pension mortgages were quite popular in the late 80s and early 90s because of the tax relief. I remember working for a life office at the time and we used to churn out quotes by the bucketload.

In my opinion I wouldn't use them because:

1. the tax free lump sum is restricted to 25% of the fund value.

2. because of 1. above the contributions will be high

3. I'd like to use the tax free cash for something else e.g. holiday

4. It's cheaper to do a repayment mortgage i.e no charges to pay for the pension - admin, fund management etc.

5. Although you get tax relief on the way in your pension gets taxed on the way out!

AL

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I went through with the purchase of a house I was looking at (circumstances rather than change of market opinion). I did ask this question a couple of months ago but the answers I got didn't really make sense.

Here's the crux of the question:

I've got a good pension that i'm contributing to with 40% tax relief. I will be able to commute a sizeable lump sum when I retire (again tax free). In addition inflation will (slowly) erode the value of the capital repayment at the end of the term. If I take the repayment option i'll be using taxed income at todays values (if you get my drift).

Is it not the case that i'm better off taking the IO option?

You understand the potential advantages of IO.

The advantages of repayment are related to flexibility. It is significantly harder to get into negative equity with repayment mortgages, since, after the first few years, equity builds up. This doesn't matter if you occupy the property until retirement. How confident are you in this being your home until then?

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Al,

My understanding is that I can commute a lump sum (25%) tax free on retirement. My contributions are fixed at 6% whilst the company puts in a further 9%.

Slowjoe,

I can see your point about occupying until retirement (probably not, but 10-15 years is almost certainly). I put down a 25% deposit so i'm shielded to a degree from coming falls I hope.

Portent,

I work for a company half-owned by the government (air traffic control) so if my final salary pension goes kapputt we're all for it.

It just seemed to me that tax free in and then out again on retirement was a more cost effective way of paying for an over-priced house, lol.

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I work for a company half-owned by the government (air traffic control) so if my final salary pension goes kapputt we're all for it.

Tatty:

Your job in air traffic control is surely dependent on air traffic. The next few years could see increased taxes on air travel, and tax or duty on jet fuel in many European countries. Geopolitics could bring a $100/bbl oil price for a couple of years. If the UK consumer finds himself in debt strife, the budget airlines are going to suffer. All of which could reduce the volume of air traffic - just like house prices, air traffic volumes are not a one-way street!

So I would not feel so safe from redundancy or cost cutting that leads to economies or changes in your pension. No-one should let themselves get too comfortable ;)

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Pension mortgages were quite popular in the late 80s and early 90s because of the tax relief. I remember working for a life office at the time and we used to churn out quotes by the bucketload.

In my opinion I wouldn't use them because:

1. the tax free lump sum is restricted to 25% of the fund value.

2. because of 1. above the contributions will be high

3. I'd like to use the tax free cash for something else e.g. holiday

4. It's cheaper to do a repayment mortgage i.e no charges to pay for the pension - admin, fund management etc.

5. Although you get tax relief on the way in your pension gets taxed on the way out!

AL

I think its a very good question when you take the new pension rules into account, i.e up to 100% of salary as pension contributions and tax free at highest rate of tax(I think).

You are limited(not limited but hefty penalties above this) to a lifetime pot of £1.5M so thats a big chunk of tax free lump sum(max £375K) going on the house. However if you are say 40 then it will probably :ph34r: coincide with retirement.

It is of course all dependent on Pension Fund growth, however with 40% tax relief(if Higher tax payer) on pension contributions its certainly more attractive than say an endownment mortgage. You'd need to run the numbers taking into effect the reverse compounding of capital repayment on the capital outstanding(capital repayment reduces interest which increases capital repayment......till finish).

Factors to consider

1.your age. If you are early 20 something maybe its too long till retirement.

2. In this scenario inflation is your friend by increasing salary and decreasing capital value.

3. Don't need to worry too much about moving as your equity(if any will move too).

4. MAX of £375K tax free.......that is not a lot in UK market.

5. Length of mortage versus retirement age.

6. Stability of retirement fund...

I say again its a very good question...... :o

You should be able to model this on a spreadsheet using various returns on pension and interest rates. I'd ONLY do it on a fixed rate just to remove that one factor.

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  • 301 Brexit, House prices and Summer 2020

    1. 1. Including the effects Brexit, where do you think average UK house prices will be relative to now in June 2020?


      • down 5% +
      • down 2.5%
      • Even
      • up 2.5%
      • up 5%



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