Redraw vs. Offset What Is Better?

When it comes to managing your mortgage, you may encounter terms like offset and redraw. These features offer potential benefits, but it is important to understand the difference between them in order to help determine which one aligns best with your financial goals and circumstances.

In this blog post, we will delve into the differences between offset and redraw facilities, hopefully helping you to make a more informed decisions regarding your mortgage.

Offset Accounts

An offset account is a transactional account linked to your mortgage. The balance in this account is offset against your home loan principal, reducing the interest charged on your mortgage. Essentially, instead of earning interest on the money sitting in your offset account, you save on the interest you would otherwise pay on your home loan. For instance, if you have a mortgage of $300,000 and $20,000 in your offset account, you would only be charged interest on $280,000.

Some banks can have multiple offset accounts linked to the loan. E.g. Loan 1 is attached to Offset 1, Offset 2, Offset 3. Having multiple offsets enable you to separate your savings into separate bucket, which you may want to do for budgeting purposes. Some banks can only have 1 offset account linked to the loan. E.g. Loan 1 is attached to Offset 1

Generally, loan products with an offset account facility will attract an ongoing fee.

Key Benefits of Offset Accounts

Interest Savings

By reducing the amount of interest accruing on your mortgage, offset accounts can potentially save you thousands of dollars over the life of your loan.

Flexibility

You can deposit and withdraw funds from your offset account as needed, providing liquidity while still benefiting from interest savings. Your funds are still available.

Tax Efficiency

This is ONLY applicable if you were to convert an owner-occupied property into an investment property. If you have an offset account, then your loan balance will still be higher (more tax benefit later on) vs. if you don’t have an offset account and you would have paid the extra repayments into the loan (lower loan
balance).

To give you an example of this; say you have a home with a home loan balance of $500,000, and you have $50,000 savings. If you have an offset account, you would put the $50,000 into the offset account and the interest on the loan will be calculated on a balance of $450,000. If you were to convert this into an investment property – and at that time your loan balance was $500,000 then you can take the $50,000 in the offset as your deposit for your a new owner occupied place and claim the interest for the $500,000 loan on the investment property (your former home).

If you were to put the $50,000 into the home loan (no offset facility), your loan balance will be $450,000 (with $50,000 as available to redraw). When it comes time for you to convert this property into an investment, and you need to use the $50,000 to pay for the deposit on your new owner occupied property, technically the $50,000 that was used to reduce the loan balance is NOT tax deductible. Hence you can only claim the interest on the $450,000 as an expense for tax. You would lose the interest deduction on the $50,000 portion that was used to reduce the original home loan.

As always, please seek an Accountant’s advice.

Redraw Facilities

A redraw facility allows you to make additional repayments on your mortgage and then redraw those funds at a later date if necessary. These additional payments contribute to reducing the principal amount of your loan, potentially shortening the loan term and saving on interest costs. However, unlike offset accounts, the funds deposited into a redraw facility are directly allocated to reducing the loan balance, rather than being held separately.

Key Benefits of Redraw Facilities

Principal Reduction

By making extra repayments, you accelerate the process of paying off your mortgage, saving on interest and potentially becoming debt-free sooner. You will see your loan balance is less but you also do not have much savings. If you had an offset account on the other hand, your loan balance is still higher but you have the savings sitting in the offset. Remember that interest is calculated daily based on (loan balance – offset balance ) x Rate/365.

Accessibility

Redraw facilities offer the flexibility to access any extra funds you’ve deposited into your mortgage, providing a financial safety net in times of need.

No Additional Fees

Most redraw facilities do not incur additional fees for accessing your extra repayments, making them a cost-effective option for managing your mortgage.

Beware that if your loan is an investment loan and you do not have an offset account, if you want to pay extra into the loan, you need to make sure that you don’t need redraw this extra payment for your personal purpose as it could affect your ability to claim the interest for your tax deduction (please seek accountant advice).

Note that in general, a variable offset account product will have a redraw facility. So you will still have the option to pay into the loan even though you have an offset facility.

Choosing Between Offset and Redraw:

The decision between offset and redraw facilities depends on your individual financial situation and objectives.

Consider an offset account if:

• You want to reduce the amount of interest paid on your mortgage while maintaining liquidity.
• You have surplus funds that you can keep in the offset account for an extended period.
• Tax efficiency is a priority for you, as the interest savings through offset accounts may offer potential tax benefits.
• You do not mind paying the extra fees for the facility you’re getting
• You want to have separate buckets for your savings (budgeting purpose)

Consider a redraw facility if:

• You prioritise reducing the actual loan balance and are comfortable making extra repayments.
• You want the flexibility to access additional funds deposited into your mortgage without incurring fees.
• You prefer a straightforward approach to managing your mortgage, without the need for separate accounts.
• You do not have to pay an ongoing fee.
• You do not have planned to convert the property into investment in the future.

Conclusion

Offset accounts and redraw facilities are valuable tools for managing your mortgage, offering distinct benefits suited to different financial priorities. Understanding the differences between these features empowers you to make informed decisions that align with your long-term goals. Whether you opt for an offset account or a redraw facility, both can contribute to saving on interest costs and achieving financial security. Evaluate your needs, consult with financial experts if necessary, and choose the option that best serves your financial well-being.