Placing a bonus into a pension rather than mortgage repayments could make individuals wealthier over the long term, according to Rathbones.
Analysis by the wealth manager looked at someone with a £200,000 mortgage over 20 years at a 4% interest rate, receiving a £10,000 annual bonus for five years. It compares using the bonus to overpay the mortgage with paying the same bonus into a pension, assuming annual investment growth of 7% after fees.
While both approaches leave the homeowner mortgage-free, the analysis found a pension-first strategy can deliver higher overall wealth over the long run.
A 40% taxpayer who pays the bonus into a pension rather than the mortgage ends up with around £57,000 more in their pension after 20 years. The uplift is similar for 45% and 60% taxpayers.
However, Rathbones said the biggest gains appear when tax rates change over time. For someone paying 60% tax today, due to the £100,000 income threshold, but only 45% in future, paying bonuses into a pension now rather than overpaying the mortgage results in almost £86,000 more in pension wealth after 20 years.
Ed Wood, senior financial planner at Rathbones, said: “For anyone receiving a bonus and weighing up whether to reduce debt or save for retirement, the numbers show there can be significant long‑term advantages to putting at least some of that bonus into a pension now, rather than postponing pension saving until the mortgage is cleared.
“This isn’t just about investment returns. It’s about locking in tax relief at the highest possible rate and benefiting from long‑term compounding inside a pension. Recent falls in mortgage rates can also change the dynamic, possibly tilting the balance more in the pension overpayment as the debt interest burden eases.”
Rathbones said the findings may also understate the potential upside for some families. For higher‑earning parents, pension contributions that reduce adjusted income below £100,000 can preserve eligibility for tax‑free childcare and free nursery hours.
Lower earners can also benefit, the analysis found. A basic‑rate taxpayer today who expects to become a higher‑rate taxpayer later still ends up around £23,000 better off by prioritising pension contributions over mortgage overpayments.
Wood added: “Becoming mortgage‑free is a major milestone for many people and understandably central to how they define financial freedom. But there’s no single right answer when it comes to choosing between overpaying the mortgage and saving into a pension. Both can strengthen your long‑term financial position, and the right choice will depend on your goals, your mortgage rate, your tax position and your attitude to risk.
“For those weighing up the two, it’s worth remembering that this doesn’t have to be an all‑or‑nothing decision. Many people may find a middle ground works best, using surplus income to chip away at the mortgage while also building up pension savings, rather than prioritising one at the expense of the other.”
Main image: greg-rosenke-YgVl5LvwntI-unsplash
