What is an offset account and do I need one?
Offset accounts can have the following benefits:
- Save: reduce interest charged to your loan
- Tax benefits: pay less tax*
- Flexibility: for your future
An offset is a transaction and / or savings account that is linked to your loan account. It works just like a regular bank account but there can be significant benefits to have this coupled to your loan. This is because the balance of this account is ‘offset’ against your linked loan, where this amount is deducted from your loan balance before interest is calculated, so any money in your offset saves you interest on the loan, and helps you pay it off sooner.
An example is given below. Say you have a loan of $250,000 with a linked offset account that has an average balance of $15,000; in this case you would only be paying interest on the notional balance of $235,000. This means that you are not paying interest on $15,000, saving you money which is instead reducing the principal so you will pay off your loan even more quickly.
In the above example, if interest rates were 7% you would be paying about $1460 a month interest without an offset, or $1370 with an offset, saving you over $1000 a year. And by continuing to make repayments at the higher amount, you would pay off the loan 4.5 years sooner and save over $61,000.
To see how much you can save on your loan with an offset account, please contact us to do some calculations for you.
Another benefit of an offset account is that interest is ‘earned’ at the same rate as your linked loan, which is usually higher than what you would earn in a savings account. And as this interest earned on your offset is used to pay the loan, it is not taxed*, unlike interest that you earn on a regular savings account. An example below demonstrates the potential savings.
The offset account is usually fully transactional where you can have your salary deposited into it if you wish, and you can access your funds anytime via internet and phone banking, ATM, EFTPOS, etc. You may choose to replace your existing transaction and savings accounts with the offset account, possibly saving you on fees and charges for your other accounts.
Do I need an offset account?
If you like the sound of the benefits listed above, an offset might be for you, but ensure that it is 100% offset (some only offer partial offset).
Note that you can get many of the same benefits just by having a loan that allows you to make extra repayments and to also redraw any surplus funds out from it. However in this instance the extra money is not in a separate account which doesn’t suit everyone as some people like separating spare funds as they use the offset to save for a car, holiday, etc. Plus surplus funds in your loan account are not always instantly available (it can take a few days to process a redraw) and there can be minimum redraw amounts (often $1000 to $2000) and redraw fees may apply.
An offset account may have an ongoing fee and / or may be at a slightly higher interest rate than a loan without an offset, but as seen from the examples above, by having money in your offset account you may well save more in reduced interest repayments. At Golden Eggs Home Loans, we can let you know what options there are for loans with and without offset and show you any difference in fees and interest rates, and help you decide if it suits your circumstances. Note however that there is one scenario where an offset is highly recommended, please see following.
Potential as an investment property
If there is any chance at all that your owner occupied home may become an investment property in the future (for example, as you pay down the loan and / or as the value of the property increases and you upgrade to a new property), then it is worth considering a loan structure that is interest-only with a mortgage offset account. By paying at least the difference between the interest only (IO) and the principle and interest (P&I) repayments into the offset account, the surplus funds mean that the borrower would not pay any extra interest compared to a standard principle and interest loan. Down the track if the property becomes an investment, any funds accumulated in the offset account could be used towards the next purchase, and the borrowers would still have a loan for the same amount as initially borrowed, and where the interest charged from that time on would be fully tax deductible. If no offset account was used, repayments made against the principal would result in a lower loan balance and the amount that is deductable could be markedly less. On the other hand, with an interest only loan and an offset account, the borrower has not paid any more interest on their loan than they would have if taking a more traditional loan, plus they have maximised their future tax deductibility if the property were to become an investment (and if it doesn’t, they are no worse off). This shows the importance of using an expert such as a mortgage broker to ensure that you get the correct loan for your current and future circumstances
Please contact us if you would like additional information, to ask any questions, or to set up a time to review your situation.
* Golden Eggs Home Loans does not offer any legal or taxation advice to customers – we recommend you obtain your own professional advice regarding taxation implications.