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What is an offset account?
An offset account is a savings account or transaction account linked to your home loan account. The account’s balance (or a proportion of that balance) is ‘offset’ daily against your home loan balance. As a result, you are only charged interest on the difference between the total loan balance and the amount offset.
For example, if you had a loan of $350,000, with $100,000 in a linked 100% offset account and $100,000 repaid, you may only pay interest on $150,000 of your balance. This means you will be charged less interest because your interest is not calculated on the remaining full balance of your home loan.
Lenders may offer offset accounts that are linked to either a variable rate loan or a fixed rate loan.
Types of offset accounts
There are two types of offset accounts:
Balance offset account: These accounts offset the interest payable on the mortgage by the balance of the account. The percentage of the balance that will be offset can range right up to 100%. However, a partial offset account may only offset your mortgage by a portion of the balance, for example, a 50% offset account will only offset the interest-bearing portion of your mortgage by 50% of your offset account balance. So, the higher the percentage of the offset account, the more you will save in interest on your mortgage.
Interest offset account: These accounts offset the interest payable on your mortgage by the interest earned in the account. However, this could be substantially less than the interest rate of the mortgage. Depending on the interest rates of your mortgage and offset account these accounts are likely to be significantly less favourable than balance offset accounts. They are also less common.
Pros and cons of an offset account
By having a decent amount of money in your offset account you might effectively cut years from your home loan and pay thousands of dollars less in interest. You do not necessarily need a huge amount of spare savings though – with a 100% offset account every cent is saving you money in interest off your loan.
Secondly, an offset account is simple for most people to manage. You could have your salary deposited into a standard savings account or transaction account every payday, and if it was linked as an offset account to your loan it would automatically save you money on your interest payments.
In addition, having an offset account can be an easy way to keep excess funds at hand while still minimising the interest payments on your mortgage, so if your financial situation changes or if something unexpected like a medical emergency were to happen, then you will be able to easily access the money that has been offsetting your mortgage. An alternative strategy of having to redraw on extra repayments you have made on your home loan is often limited to minimum amounts and/or come with fees.
Offset accounts can be a great tool for some homeowners, particularly with the flexibility they can provide. They can also potentially save you money and cut time off your mortgage. However, keep in mind you may find yourself either paying an additional fee for a loan with an offset account, or alternatively, you could end up paying a higher interest rate on your mortgage. The financial benefit of a mortgage offset account will depend on a number of factors, such as the interest rate and fees of comparable loans (with or without an offset facility) and how much money you are likely to keep in your account. So, it is important to weigh up your individual circumstances and determine if an offset account is right for you.
Are your monthly repayments the same with an offset account?
When you have an offset account your monthly repayments typically stay the same in dollar amounts. This can be a good thing because it means you can repay your loan faster.
Each month, more money is going towards paying off the principal (your loan amount) because the offset amount is reducing how much interest you owe. Reducing the amount of interest you pay each month can help you to put more of your money towards repaying your loan faster.
How to choose an offset account
When choosing a home loan that allows an offset account consider features such as:
An account where 100% of your total balance is offset against your loan.
No minimum balance, so every cent in your offset account is working for your loan.
No maximum balance limit, so you can keep growing your savings and paying less and less in interest on your home loan.
Low or no fees on the offset account.
The ability to use your offset account for the transaction types you need, e.g. debit card, ATMs, EFTPOS, BPAY, direct debit, and in-branch.
The ability to link multiple accounts as offset accounts to your loan.
An equal or superior savings interest rate to your mortgage interest rate, if possible.
The last dot point is particularly important if your mortgage is being offset by an interest-paying offset account. If this is the case, you do not earn interest in the traditional sense, but rather you are offsetting the interest of your mortgage. This may have different tax implications for you compared to if you were earning interest in the traditional sense, so consider contacting the Australian Taxation Office or seeking professional tax advice.
Important: This information is general in nature. Mortgage brokers and their licenses do not provide taxation advice. You should consider seeking independent taxation advice for your individual circumstances.
Offset account or redraw facility?
Offset accounts and redraw facilities are both common features of a home loan, and it is important to know which would work best for you:
Money sitting in an offset account remains at call and accessible, whereas you must make an application to withdraw money using a redraw facility, so it is not always accessible the same day.
An offset account holds any spare savings you have, while a redraw facility is only available for any additional repayments you have made above and beyond your usual monthly repayments. You can only “redraw” the extra that you have already paid.
Offset accounts may have low or no account-keeping fees and some transaction fees, compared to the redraw fee that is typically charged to redraw money using a redraw facility.
Offset accounts require self-discipline to save money instead of spending it, while redraw facilities enforce discipline for many people, because you must apply in advance if you want to redraw money to spend.
Speak to your mortgage broker today about mortgage offset accounts.
Kind Regards,
The Newstead Group Team