Offset accounts: How they help with your mortgage

An offset account could help reduce the interest you pay on a home loan, as well as cut down the loan period

Offset accounts: How they help with your mortgage

An offset account could help you reduce the interest you would otherwise pay on your home loan, therefore helping to shorten the loan period. Offset accounts also allow you to have access to your money at any given time, similar to standard transaction accounts. But whether it is right for you will be dependent on a few factors.

What is an offset account?

An offset account is similar to a savings account or transaction account for your home loan. As the name suggests, this type of account is used to offset the balance of your home loan, meaning you will be charged only for the interest on the difference. For instance, when you deposit all of your earnings and your regular income into your offset account, you can save thousands of dollars throughout the period of the loan and pay off your home loan ahead of its term. Because an offset account will generally cost more money, it is critical to do your homework to ensure you are going to come out ahead in the end.

Generally, an offset account is offered on variable rate home loans. There are lenders, however, that occasionally offer offset accounts on certain fixed-rate loans.

How does an offset account work?

An offset account works like this: if you have a home loan balance of, say, $400,000 and savings of $10,000 that you keep in your offset account, the interest on your home loan will only accumulate on the $390,000. In other words, in your offset account, you will not get interest on the $10,000. That $10,000 is reducing—or offsetting—the interest that would otherwise be charged on your home loan.

Your money is still working for you rather than you for it, because you usually do not receive interest with that type of account. And that is the point of the offset account: it reduces the money you are borrowing to pay interest and makes your loan term shorter. Additionally, your funds are still accessible, similar to a savings account or a transaction account. However, if you do withdraw money, you will have less to help you lower the interest charged on your home loan.

How much can you save

Your offset account can save you literally thousands of dollars and significantly reduce your home loan period. And the more money you have in that account, the more you will save. An example of how much you can potentially save is as follows: you take out a home loan of $400,000; the interest rate is at 5%; the initial period of the loan is 30 years; and you decide to keep $10,000 in the offset account for the entire loan period. With this example, you end up saving more than $30,000 in interest and therefore reducing the time it takes to repay the loan by over one year.

Benefits of an offset account

Some of the benefits of an offset account are as follows:

Flexible and accessible. Because most offset accounts are basically standard transactional accounts, it is extremely simple to withdraw and deposit your money. Offset accounts are especially effective in that way if you compare them to redraw facilities or lines of credit.

High interest return on your savings. Interest rates paid on standard transactional accounts are typically lower than interest rates charged on home loans. That means the interest that you are saving on your home loan will pretty much outweigh interest gains, even if you do not receive interest on your savings in the offset account.

Interest calculated daily. You will benefit from the impact of your offset account on your home loan even if there are savings in that account for more than one day, at any time. This is true whether or not you live pay-to-pay or save consistently.

Reducing your tax bill. Using an offset account effectively reduces your tax bill because, since your the account balance reduces your loan interest, no tax is payable.

How can an offset account help reduce your mortgage?

Because every situation is unique, you will want to want to consider differing factors prior to settling on a mortgage with an offset account. An offset account would be a good idea for you, for instance, if you need regular access to your funds.

 It is important to remember, however, that lenders usually charge monthly fees for these types of accounts, and there will be an annual package fee if the offset account is offered as part of a package. Therefore, it is a good idea to consider if the interest you will most likely save will be more than the fee costs.