As a financial advisor here in Australia, one of the most powerful tools I regularly recommend to clients is an offset account. But what exactly is it?
An offset account is a transaction account linked to your home loan. The balance in this account is “offset” against your loan balance, meaning you only pay interest on the difference between the two.
For example, if you have a $500,000 mortgage and $50,000 in your offset account, you’ll only pay interest on $450,000.
How Offset Accounts Save You Money
The beauty of offset accounts lies in their simplicity and effectiveness. They save you money through reduced interest payments as your effective loan balance is lower. This means more of your regular repayments go toward reducing the principal, allowing faster loan repayment. Unlike earning interest in a savings account, which is taxable, the benefit from an offset account comes from paying less interest, which isn’t considered taxable income. Additionally, your money remains accessible at all times, unlike making extra repayments, which might be locked into your loan.
Real Numbers: The Savings Potential
Let’s look at a practical example to illustrate the savings:
Imagine you have a $500,000 mortgage at 5% interest over 30 years. Your monthly repayments would be approximately $2,684.
If you maintain an average of $50,000 in your offset account throughout the loan term, you would save approximately $131,000 in interest over the life of your loan and potentially pay off your mortgage up to 5 years earlier.
Offset vs. Redraw: Understanding the Difference
Many Australians confuse offset accounts with redraw facilities. Here’s the key difference:
An offset account is a separate transaction account linked to your loan. A redraw facility allows you to withdraw additional payments you’ve made toward your mortgage.
The main advantages of an offset over redraw include better accessibility to your funds, more flexibility for investment property owners (redraw can affect tax deductibility), and no withdrawal restrictions or fees that some redraw facilities impose.
Maximising Your Offset Account
To get the most from your offset account, have your salary deposited directly into it to maximise the daily balance. Use a credit card for monthly expenses (paying it off in full before interest accrues) to keep more money in your offset account longer. Consider consolidating savings into your offset rather than keeping them in standard savings accounts, and review your offset account regularly to ensure it’s still competitive in terms of fees and features.
Is an Offset Account Right for Everyone?
While offset accounts offer significant benefits, they’re not necessarily the right choice for everyone. Cost is a consideration, as offset accounts often come with package fees that might outweigh the benefits if you have a small loan balance or limited savings. They also require financial discipline since having easy access to your savings means you need to resist spending the money that’s offsetting your loan. Finally, if you’re close to paying off your mortgage, the setup costs might outweigh the potential interest savings.
Final Thoughts
An offset account is one of the most effective financial tools available to Australian homeowners. By understanding and properly utilising this facility, you can potentially save tens or even hundreds of thousands of dollars over the life of your loan.
Remember, the key to maximising these savings is maintaining as high a balance as possible in your offset account for as long as possible.
If you’re not sure if an offset account is right for your situation, I’d recommend consulting with a financial advisor who can provide personalised advice based on your specific circumstances.
Written by Michael Andrew Bankier