An offset account is one of the many lending features available to borrowers – but do they help save you money?
What is an offset account?
An offset account is a transaction (or savings) account which is linked to your home loan. The money in this account is “offset” against the balance of your loan, meaning you only pay interest on the difference.
For example, if Louis had a loan of $450,000 and had $50,000 in a linked offset account, he would only have to pay interest on $400,000.
As the balance in this offset account grows, the amount you save on interest also grows, which could save you money and cut the amount of time it takes you to pay off your loan.
What types of loans can offset accounts be used with?
Offset accounts can be linked to either a variable or fixed rate home loan, with some lenders requiring an offset account for a portion of a fixed term.
While there are different variants of offset accounts available, by far and away the most common is the 100% balance offset account.
As used in the offset account example above, the total offset account balance is subtracted from the outstanding loan balance before interest is calculated. Because of the ‘saving’ nature of a 100% offset account, the balance in the offset account doesn’t earn any interest (eg. this would effectively be ‘double-dipping’).
How much can you really save with an offset account?
To reap the benefits of an offset account and accumulate the most savings, the amount of money deposited into the account must be consistently at a reasonable level (e.g., $100 isn’t going to do it for you!).
One of the ways that people manage to maximise the amount in their offset accounts is by putting all of their work income into their offset account and using a credit card for their expenses/purchases made throughout the month. Critically, they then make a lump sum payment from the offset account once a month at the time ‘due’ from their credit card provider to balance the credit card back to $0 (and hence avoiding any interest charges and fees from the credit card itself).
As with many financial product features, there are often certain types of fees and premiums involved. And while saving money long term is the focus here, you have to make sure you do the basic sums to ensure that the fees don’t end up costing you more than the amount you save by reducing the interest bill on your home loan!
Some of the common fees and premiums involved with offset accounts can include:
- Standard transaction fees
- Application/establishment fees
- Higher monthly account keeping fees
- Higher interest rates
Case study: Offset account
Louis borrows $450,000 and decides to go with a 100% offset account loan which costs him nothing extra in fees, but attracts an interest rate premium of 0.1% p.a higher than the same loan without the offset account. At the end of the first year of his loan (which has a 3.9%p.a interest rate), he has managed to maintain $25,000 on average in his offset account across the entire year.
The saving Louis makes from the offset account (eg. $25,000 multiplied by 3.9% = $975) exceeds the extra he’s had to pay from the 0.1% p.a premium on the interest rate (eg. $450,000 multiplied by 0.1% = $450). So in effect, he is $525 better off.
For some people, the benefits of a slightly lower home loan interest rate and the possibility of a reduced loan term outweigh the costs of maintaining an offset account. However, for many others who are able to consistently maintain a reasonable balance in the offset account, they can make a meaningful saving. At the end of the day, it depends on your personal financial situation.
Frequently asked questions
There are some offset account disadvantages to be aware of. Mainly, offset account home loans tend to be more expensive than loans without, whether this is due to a higher rate or higher fees.
You might also need a higher deposit to get an offset account home loan, but this isn’t always the case.
Putting extra repayments into your offset account will shave the same amount of time and money off your home loan if you paid them directly into your mortgage.
BUT, by making these repayments to an offset account, you have the option of accessing them in the future, although this will eliminate the benefits of making the extra repayments in the first place.
Yes, every cent you have in an offset account can save you money on your regular mortgage repayments since you have less interest to pay.
You can withdraw from offset accounts since they operate similar to transaction accounts, just linked to your home loan. But if you do withdraw from your offset account, you’re reducing the amount saved on your regular repayments.
Offset accounts are essentially transaction accounts linked to your home loan – the amount stored in an offset account can reduce the amount of interest you have to pay.
Redraw facilities on the other hand allow you to deposit spare income directly into your home loan account, and can often have restrictions on how much you can deposit and withdraw.
Offset accounts can be very tax effective for investment loans. By storing money in an offset account you reduce the loan amount being charged interest, which reduces the amount of tax on interest you have to pay.
Savings.com.au’s two cents
- Offset accounts can be a great way to save money by reducing the interest you pay on your home loan.
- BUT you must maintain a reasonable amount of money in the offset for it to make a difference.
- The overall saving of an offset account is the interest savings over the loan term, minus:
- any extra costs of an offset account (eg. higher home loan interest rate); and
- how much you’d have earned by placing the offset money in a high-interest savings account instead.