After enduring 10 consecutive rate increases over the previous two years, holders of tracker mortgages could rightfully treat themselves to a takeaway following the quarter-point interest rate reduction by the European Central Bank (ECB). Further reductions are predicted, but how should the saved money be managed?
Calculating the benefits
Approximately 170,000 Irish tracker mortgage holders will gain from this initial decrease. Although not a significant windfall, any reduction is a positive move.
Tracker mortgages, which follow the ECB rate, offer a low set interest rate. Since 2012 and up until July 2022, this rate had remained below 1%. However, it then quickly escalated to 4.5%. On June 12th, the first decrease took place, reducing the rate by 0.25% to 4.25%.
Between 2001 and 2008, tracker mortgages were a popular option. For instance, a first-time homebuyer in their early 30s who took out a tracker mortgage in 2006, obtaining a €350,000 loan over a three-decade period with a 1.25% margin. Their monthly payments swelled swiftly from €1,233 in June 2022 to €1,635 in May this year, reacting to the increased interest rate of 5.75%. This resulted in an additional €402 per month, which equates to a considerable increase in post-tax income.
Following this initial rate cut, a mortgage holder with a €250,000 loan can anticipate a saving of approximately €33 each month, or over €350 annually.
If financial markets are to be believed, there may be two more rate reductions this year, provided inflation targets are on track. By December, this could equate to an additional 0.5% fall, which would imply a further €100 saving per month for tracker holders.
While it is not advisable to make premature assumptions, it’s also critical to ensure these savings are put to good use.
Addressing your credit card debts
The prior two years have been a struggle for mortgage holders. If debts have accumulated on your credit card, it’s high time to tackle them. If your monthly mortgage payment decreases by €33, consider using that money to pay your credit card bill.
Should you have an outstanding balance of €1,000 on your credit card, charged at a 22% interest rate and you’re paying the minimum amount of €50 each month, it would take longer than two years to settle the balance. However, if you add a monthly mortgage saving of €33 to the minimum payment, the balance can be cleared a year earlier. Keep in mind, making only the minimum payment attracts an interest rate between 2% to 5% on the total owed. Hence, it’s smart to try and clear the full balance as swiftly as possible to avoid these charges. A tip to do this is setting up a direct debit for an agreed upon amount each month. This helps to prevent making only the minimum payments.
If you manage to save an extra €33 between now and July and assuming the European Central Bank rates are cooperative, by December you could have an additional €100 per month saved. But it can be easily consumed in regular household expenditures. If you have handled the rate increases in past years, you could start putting these savings into a savings account instead of spending it.
Considering online banks, such as Bunq, they offer a rate of 2.46% with additional flexibility. If you save €100 each month, you would have a nice little nest egg of €1,200 plus €16 in interest at the end of the year. Surely, it’s not a big deal, but Bunq’s app makes it more enjoyable showing your interest accumulate on a weekly basis. Be aware that interest is subjected to Dirt tax. You can create an account online, deposit flexible amounts, and you are permitted two withdrawals a month. There are no charges and your funds are secured up to €100,000.
Major banks offer savings rates of 3%, but some demand a minimum monthly deposit of €5 or €10. If that suits you and you’re neutral towards Irish banks, you’ll earn €19.50 after a year. It would also be beneficial to boost your pension.
Consider topping up your workplace pension scheme with the additional funds generated from interest savings. Preferably, make this move before you become accustomed to having the extra money on hand. Arguably, pensions are one of the most effective means of financial conservation.
Whether it’s an extra €33 per month, or potentially even €100 if rates continue to drop, investing these savings in your pension is a robust financial strategy for your future. Moreover, you can reap the benefits of tax relief too.
In a scenario where you are taxed at 40 per cent and you deposit €100 into your pension, it only incurs a cost of €60 to you, therefore, you ultimately gain €40 back due to tax relief.
The maximum pension contribution from your taxable income is determined by Revenue and largely depends on your age. For instance, if you purchased a tracker in 2006, chances are you might be around 50 now. If you’re an employee aged between 50 and 54, you can avail up to 30 per cent of your taxable income for income tax relief on pension contributions.
Decide on the amount you can commit to contributing, communicate this to your employer who will then input the figure into the payroll system. This method ensures the correct rate of tax relief is applied automatically. Afterwards, your employer will forward the payment to your pension provider who will invest it in your retirement account.
Be sure to claim your entitled tax credit if you haven’t already. The mortgage interest tax credit, announced in the 2024 Budget, was initiated to assist households struggling with climbing interest rates. This incentive is available to taxpayers who held mortgages between €80,000 and €500,000 as of December 31st, 2022 and applies to the 2023 tax year only.
The amount of credit you receive is based on any rise in interest paid in 2023 in relation to the preceding year, 2022. Eligibility for this credit only applies if you have paid income tax, as the credit reduces the tax you owe. As an example, if Mary’s interest on her qualifying loan increased by €3,000 in 2023 compared to 2022, her tax credit would be 20 per cent of the increase, equating to €600.
With only 17,000 claims for this credit thus far, don’t delay in making your claim. File an income tax return using Revenue’s Ros or MyAccount service and put that money to good use.
Perhaps consider making additional mortgage payments?
Having been persistently meeting the escalating demands of your mortgage repayments for some time now, you’ve definitely weathered some challenging times, possibly even cutting back on other expenditures to make ends meet. However, with the imminent decrease in interest rates, it’s tempting for spending habits to increase, consuming any extra cash you might have.
To counteract this, you could be stern with yourself and rather than keeping the savings, continue making the larger payments to decrease your mortgage debt sooner. Beware not to excessively invest in your mortgage if the rate of return is more attractive elsewhere.
Moreover, it’s not prudent to contribute extra towards your mortgage if it results in needing to resort to more costly borrowing for other necessities. For instance, your mortgage rate could be set between 3 per cent and 5.5 per cent, yet you might end up paying 8 per cent on a personal loan or over 20 per cent on credit card debt.
Currently, the savings of approximately €30 from mortgage payments might be essential for many just to manage basic necessities. Worth mentioning too is the likelihood of interest rates never again falling to the ultra-low levels of the past decade. If you can, treat yourself to a takeaway meal in order to commemorate the difficult previous years. As interest rates continue to decrease, make the most of any savings, should you be in the position to do so.