ISA Mortgage
What is an ISA Mortgage?
An ISA Mortgage is a mortgage whereby a Borrower repays only the interest on the loan to the Lender but at the same time puts regular amounts of money into an Individual Savings Account (ISA) then when the ISA matures it is used to repay the loan.
ISAs were formerly known as PEPs (Personal Equity Plans) up until 1999 and the dividends from shares with PEPs and ISAs are currently tax free.
The savings plan runs alongside an interest only mortgage and if the ISA performs well you may be able to pay off the mortgage early or enjoy a lump sum at the end of the repayment period as well as paying off the mortgage.
An ISA mortgage is similar to an endownment mortgage except that it does not provide any life assurance cover and that ISA funds are untaxed.
Sounds good, but...?
On the other hand if the ISA does not perform well then you might not have sufficient funds to pay off the mortgage at the end of the repayment period but by monitoring your ISA during the term you could pay in additional amounts.
The main disadvantage of an ISA mortgage is that the debt remains constant throughout the mortgage term and also you have no guarantee that you will have sufficient funds to pay off the mortgage at the end of the repayment period as the ISA could perform well below expectations.
Other good points?
Although ISA mortgages have the obvious tax advantage over endownment mortgages people have been slow to change to them as borrowers do not wish to accept the level of investment risk that applies to this type of repayment deal.
There are usually no penalties if you cash in an ISA before the end of the mortgage term and since the elimination of tax relief on mortgage interest there is no gain in maintaining a mortgage for the long term, therefore it makes sense to pay off your mortgage as soon as possible and if you can afford it then an ISA mortgage gives you the flexibility to pay your mortgage off early.
The three advantages of having an ISA mortgage are;
- Even though they have a high level of risk: ISA mortgage benefits from favourable tax treatment; unlike endowment mortgages.
- The charges for an ISA mortgage are usually much lower than the charges for an endowment mortgage.
- There are usually no penalties if you cash in an ISA before the end of the mortgage term. Although ISA (and PEP) mortgages have the obvious tax advantage over endowment mortgages people have been slow to change to them.