First up, make sure you read our articles on redraw and offset accounts if haven’t done so already. Now that you’ve done that, let’s unpack how and when to use an offset account or redraw facility.
Alright, let’s break this down. Both offset accounts and redraw facilities:
- can help reduce the amount of interest you pay on your home loan
- can help you pay off your loan earlier
- are generally available on most standard variable loans.
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 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 transact 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 in the future. 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 with 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. Here are a couple of scenarios that illustrate how offset and redraw accounts could work for different types of people.
Scenario One: Mike has renovation plans
Mike has just bought his first home – and it’s a renovator’s delight. He needs to save $12,000 to fix the place up and has chosen to do this by putting away $200 a month over five years. Rather than putting it in a savings account, he’d decided to reduce the amount of interest he pays on his home loan.
But here’s the thing: Mike doesn’t want the money to be easily accessible – otherwise he’ll be tempted to spend it. For this reason, he decides to put the money into his home loan as extra repayments. This means he pays an extra $200 above the minimum he’s required to repay each month.
By doing this, Mike is paying off more of the home loan principal, which means he’s reducing the amount of interest he pays over the course of the five years. If the need arises, he has the option to ‘redraw’ the $12,000 to pay for his planned renovations.
Scenario Two: April is a good money manager
April has always been good with her money. She always pays off her credit card on time every month to avoid paying interest.
Having just taken out a home loan, she is keen to make it work as hard as possible for her. So she decides to use the interest-free period on her credit card to maximise the value of her offset account.
She tells her employer to pay her salary into her offset account each fortnight. Meanwhile, she uses her credit card to pay for her daily living expenses. By paying it off each month, she avoids credit card interest charges.
By taking advantage of the interest-free period on her credit card, April can let her salary sit in her offset account for longer. In doing so, she reduces the amount of interest she pays on her home loan.
Both offset and redraw can work together
Many people use both offset accounts and redraw facilities. For example, you might consider making an extra repayment into your home loan each month. Plus, you might choose to use an offset account as your transaction account where you salary is deposited.
Both your offset account and redraw facility may help to reduce the amount of interest you pay on your home loan. They could also help you pay it off earlier.
Weighing up the best way to manage your finances and home loan depends on a range of factors. Everyone’s circumstances are different.
It’s a good idea to talk to your lender about options for managing your loan repayments. But it’s also a good idea to talk to a trusted financial advisor on how to best manage your finances.