Endowment mortgage

An endowment mortgage is a mortgage loan which is arranged on an interest-only basis with intention of having the capital repaid by one or more endowment policies (which are often low-cost). In the United Kingdom, the word "endowment mortgage" is used mostly by lenders and customers to refer to this kind of loan arrangement; nevertheless, it is not a legal term.

One agreement is with the lender for the mortgage, and another is with the insurer for the endowment policy. The borrower is bound by both agreements. The two agreements are unique, and the borrower has the option to modify either arrangement at any time without penalty. In the past, lenders often used the endowment insurance as an extra security to protect their investment. Thus, the lender used a legal technique to guarantee that the earnings of an endowment were paid to them rather than the borrower; usually, the policy is assigned to them. This is a practise that is no longer widespread.

Customers only pay interest on capital borrowed, resulting in lower monthly payments as compared to traditional payback loans; in addition, the borrower pays premiums into an endowment life-insurance policy, which reduces the monthly payments. Ideally, the payoff from the endowment policy will be adequate to pay off the mortgage at the end of its term, with any remaining funds serving to establish a cash surplus if that is possible.

Until 1984, qualified insurance contracts (including endowment plans) were eligible for life assurance premium relief, which was a tax break on the premiums paid to the insurer (LAPR). This provided a tax benefit for endowment mortgages throughout the course of their repayment. The MIRAS (mortgage interest relief at source) scheme, in a similar vein, made holding a bigger mortgage beneficial since the MIRAS relief decreased as the repayment mortgage was repaid. When it comes to endowment mortgages, this tax incentive is not typically mentioned in the media, which is surprising given the popularity of the product.

Another advantage of an endowment is that many lenders offer interest on a yearly basis, which makes it more cost effective. Due to this, any capital repayments made monthly are not deducted from the outstanding loan until the end of each year, resulting in an increase in the actual rate of interest that is applied to the loan. In such a scenario, contributions into an endowment may benefit from any gain in value that occurs from the time the money is invested. Thus, the net investment return necessary by the endowment to pay back the loan would be less than the average mortgage interest rate over the same time period, and the debt would be paid off sooner.