Home and dry on your mortgage

With endowments falling out of favour, some mortgage borrowers are using individual savings accounts to pay off their interest-only mortgages.

About 20 per cent of borrowers opt for interest-only mortgages, where you make interest payments every month leaving the capital untouched. To repay the loan, most people take out a regular savings plan designed top produce a lump sum to repay the capital at the end of the term.

Isa mortgages offer a number of advantages over with-profits endowments:

• Funds with very low - and transparent - charges are available.

• There is a wide choice of investments, and what the fund invests in is clearer than with an endowment.

• Valuations do not depend on bonuses laid down by the insurance company.

• Contributions can be varied if you increase or pay off some of your mortgage.

• There is no fixed investment term, so if the fund does well, you may be able to repay your mortgage early, make withdrawals for other uses, or build up a lump sum.

The obvious drawback with an Isa mortgage, as with an endowment, is the lack of a guarantee that the fund will repay your mortgage. 'The key thing with an interest-only mortgage is the risk you are willing to take on,' says Johannes Kennard, of mortgage broker London & Country. 'It is important that the vehicle you choose meets your level of risk.'

With an Isa plan, monitoring the investment is up to the borrower. One or two providers have sought to overcome this problem by providing an Isa mortgage package. Legal & General's Flexible Mortgage Isa offers a UK Index Tracking Isa fund with regular performance reviews, plus various insurance options.

However, this is not necessarily the cheapest option. Monthly contributions for a ?100,000 25-year mortgage for a couple aged 35 would be ?157.80 using the Legal & General Isa with term insurance cover, or ?176.44 including critical illness cover. This is in addition to the mortgage loan repayments of around ?624 a month at Abbey National's standard variable rate - giving a total monthly outlay of ?781.80 (or ?800.44 with critical illness cover).

Abbey National recommends Isa contributions of ?166 a month to cover the mortgage, giving a total of ?790 a month without insurance cover. A ?100,000 repayment mortgage, where you pay interest plus part of the outstanding loan each month, would cost about ?747 a month (without insurance).

Computer contractor Oliver Hall, 29, is based in London but hopes to return to his native Liverpool, where he is buying a flat in a converted block in the old cotton trading area of the city. He chose an Isa mortgage using Fidelity's Managed International fund as he believes he will build up savings while repaying his mortgage. He hopes to pay off the loan early from other resources, leaving the Isa as a bonus savings fund.

As he is not relying on the Isa fund for repayment, Hall chose a relatively high-risk international Isa at the suggestion of broker John Charcol.

Interest-only mortgages were invented when there was tax relief to be had on mortgage interest. With this benefit gone, most people prefer a risk-free repayment- only loan. Investors should consider an Isa mortgage only if they are happy to do their own performance reviews, or if, like Hall, they are not relying on the Isa to repay the loan.