What is a Mortgage Offset Account? How does it work?
Many of us have heard of the term “offset account” when talking about home loans, but do we all know how it works?
An offset account is just what it sounds like. It’s used to offset the balance of your home loan, which means you’ll only pay interest on the difference between your total loan balance and the savings amount in your offset account.
The more savings you hold in your offset account, the less interest you have to repay on your home loan. This is because the funder is not charging you interest on the total loan amount. You can use our Offset Calculator to determine much you could save with a full offset linked to your loan.
Types of offsets – what’s the difference?
Full offset? What about multiple offsets? It’s up to you to choose which is right, depending on your financial situation and the type of loan you apply for.
Full offset
Having a full or 100% offset account means 100% of the funds sitting in the account are deducted from interest charged on your home loan. This is the most common and sought after type of offset, because your savings are doing maximum work in lowering the interest you have to pay.
Let’s set up a basic example.
John has a mortgage of $500,000, with a 100% offset account linked to his loan.
John’s offset account has $50,000 of savings within it.
Therefore, he is only charged interest on $450,000 of his home loan.
Multiple offset accounts
It is possible to have multiple offsets accounts linked to one home loan. Having multiple offset accounts means you can combine your savings and expenditure accounts to have your total savings offset your loan. This is advantageous if you already utilise multiple accounts in everyday banking and want to take advantage of these balances and offset the interest on your mortgage.
What’s the difference between offset and redraw facilities?
Offset and redraw work toward the same goal – to reduce the interest you pay on your loan – but operate quite differently.
An offset facility works as a separate savings and can be used as a day-to-day transactional account if required. Transactions can be made via EFTPOS or Debit Card, like a regular savings account.
Whereas a redraw facility is the ability to access and withdraw extra repayments made on your home loan account, but only into one of your other transactional accounts. The extra repayment amount works to lower the amount you are charged interest on, however unlike an offset account, no EFTPOS or Debit Card transactions can be made out of a home loan redraw facility.
Here’s a scenario with a redraw facility on a home loan
Let’s say Sarah has a small home loan of $200,000 with a redraw facility. She has made $10,000 in overpayments toward the loan itself (principal) available to redraw.
Sarah is charged interest on $190,000.
A small renovation is coming up, and Sarah redraws $7,000 from her home loan account, directly into another of her transactional accounts for use.
By withdrawing $7,000, interest is charged on $197,000 of her loan.
What’s the benefit of one over the other?
Ultimately it’s up to your needs or preferences. As mentioned earlier, the advantage of an offset account is it can be used as a regular day-to-day transactional account. Some borrowers opt to have their salary deposited into the offset, so that any unspent income can work toward reducing interest on their home loan.
Redraw facilities are often far more restrictive and conditions will depend on the lender. Some lenders allow only a limited number of redraws per year, may charge a fee per redraw, or require a minimum of $1,000 or more per redraw. It is important to check with your lender to see what your redraw conditions are. The advantage of a redraw facility is that extra repayments go toward paying off the principal.
Remember the Reduce team is here to help if you have any questions. Just give us a buzz on 1300 REDUCE to find out more.
IMPORTANT DISCLAIMER ABOUT OFFSETS
Not all funders’ offset accounts and redraw facilities work the same way. In some cases, extra features can mean extra charges or conditions. Be sure to carefully read the terms and conditions of the offset to know all about associated costs, conditions such as redraw and linked debit cards, and more. Contact your broker for specific details about your offset account.