A Guide To Redraw Facilities and Offset Accounts For Your Home Loan
Redraw facilities work in a similar way to offset accounts, but there are some key differences. Generally speaking, redraw facilities are less flexible, but they can have advantages too.
What is an offset account?
An offset account is a transaction account linked to your home loan. You can make deposits or withdraw from it as you would with a regular transaction account.
The big difference is that when you hold money in an offset account over a period of time, you can reduce the amount of interest charged on your home loan. The higher the balance and the longer the period, the less interest you’ll pay. This can be very beneficial in assisting you pay off your loan sooner.
Generally speaking, the offset feature is only available on variable rate home loans, although some lenders may offer an offset feature on selected fixed rate home loans.
How does it work?
Sometimes the best way of explaining things is to use an example.
Let’s say you take out a $400,000 home loan.
You then deposit $10,000 into your offset account.
You’ll now be charged interest on $390,000, instead of the full amount of $400,000.
This will continue for as long as the $10,000 stays in your offset account.
How much could I save?
Keeping money in your account can potentially save you thousands of dollars and cut years off your home loan period.
Let’s look at the above example to see how much you could save.
You take out a home loan for $400,000.
The interest rate is 5%.
The initial loan period is 30 years.
You keep $10,000 in your offset account for the life of the loan.
You save over $30,000 in interest.
You will then reduce the time it takes to pay off your loan by more than a year.
How to use an offset account
Some people choose to have their pay deposited straight into their offset account and treat it as an everyday transaction account. Others may use their offset as a savings account for things like holidays or renovations – or for less exciting purposes like setting aside money for their tax bill.
Offset account v normal savings account
Your money generally works harder in an offset account compared to a regular savings account. That’s because the interest rate you pay on a home loan is usually higher than the interest you earn in a savings account.
Another advantage is the interest you save by using an offset account won’t be considered income, which means it won’t be taxed. On the other hand, the interest you earn on a savings account will generally be considered income, and that means it may be taxed.
Is an offset account right for you?
Everyone’s situation is different. Before deciding on a mortgage with an offset account, you may wish to consider a few factors. If you want regular access to your money, then an offset might work for you.
But remember that most lenders will charge for an offset account. You may pay a monthly fee, or if your offset account is offered as part of a package, there may be an annual package fee.
It could be worth considering whether the amount of interest you’re likely to save will be greater than the fee you’ll be paying. Your lender or financial adviser can help you do the numbers in order to understand whether an offset account is right for you.
What’s the difference between offset and redraw?
Redraw facilities work in a similar way to offset accounts, but there are some key differences. Generally speaking, redraw facilities are less flexible, but they can have advantages too.
Redraw facilities and offset accounts have many similarities, but there are some important differences.
The similarities
They can help reduce the amount of interest you pay on your home loan
They can help you pay off your loan earlier
Both are generally available on most standard variable loans.
The differences
An offset account is a separate deposit account. You can have your employer deposit your salary into it, and you can transfer money in from other accounts. If you want, you can also use your offset account for everyday spending like groceries and bills by using a debit card.
By contrast, a redraw facility is not a separate account, but a feature attached to your loan. It allows you to draw back additional payments (the amount above your scheduled payments) you have made on the loan. A redraw facility may not be as flexible as an offset account, for example, you may not have the option to redraw money from an ATM or transaction using a debit card. Some lenders may set minimum redraw amounts.
There may be different tax implications with using your redraw feature and offset account. If you decide to rent out your home as an investment property, the interest charged on the loan may be tax deductible, but you may not be able to claim any portion of the loan you have redrawn from your redraw facility for non-investment purposes like a holiday or a private car.
On the other hand, withdrawing amounts from your offset account won’t affect the tax deductibility of interest charged on your loan. If there is a possibility that your first home could one day become an investment property, we suggest you seek financial advice on the best way to reduce interest on your loan when using a redraw or offset account.
Remember that everyone has their own spending and saving habits. What works for one person may not work for everyone. These are just a couple scenarios that illustrate how offset and redraw accounts could work for different types of people.
For more information, please contact the team at Barwon Mortgages.