What is an offset account and what are the advantages of having money in one of these accounts vs paying it down off your home loan?
Let me explain.
So, we’ve got a loan of $400,000 and for argument’s sake we’re saying today that this is our own mortgage, meaning that you’re living in that property, it’s your own home, not an investment property. We have an offset account over here.
So, what is an offset account?
It’s basically an account that’s linked to your home loan that you can put money into, right, now some banks charge a fee per month to have that account, some don’t, but you can put that money into that account and it actually offsets the loan that you’ve got with that particular lender and I’ll go into some numbers in a moment, but the concept of the offset account is a good one for people to be able to throw extra cash in there and it can offset your debt, which is essentially a bad debt if it’s your own mortgage of the house of your living in.
Some may have a redraw facility. Now in some cases the reader or facility doesn’t offset the loan that you’ve got, so you must check with your lender if you’ve got to read your facility and not an offset account, but a lot of banks now have a redraw facility which offsets anyway. So, we’ve said there’s a three and a half percent interest rate that’s being charged on this $400,000. Per annum, that’s costing us interest only $14,000. We’re not talking about the principle for the argument today, we’re talking about just the interest amount that is $14,000 per annum on that $400,000. So, the simple math for $400,000 times by 3.5% equals $14,000.
Now, because we’ve got $50,000 of our own money, right, we’ve saved up $50,000, or we’ve got a donation or lottery or whatever it may be, we’ve got $50,000 sitting there. It’s our own cash.
It’s offsetting the $400.000, so essentially we’re paying interest on how much? $350,000, not $400,000.
So, our interest per annum, if we keep it there for every day of the year, because interest is calculated daily, our interest is $12,250.000.
So, we’re saving ourselves about $34.00 per week okay? Better in your pocket than the banks, right, so we’re better off having our money in the offset, versus a savings account that’s not linked to our home loan. Does that make sense? So, $34.00 a week we’re saving by having our $50,000 in there.
Now, some people come to us and say do we pay down that loan or do we keep the money in the offset? What do we do? Well, there’s no right or wrong, but what I will say is if we pay it down, our loan will be down to $350,000.00, we will have zero amount sitting in there, which means we may not have cash for a rainy day, or we may not have cash to go and buy shares, or go and buy property, or do something that we want to do in our life, okay. So it restricts us from that point of view, when in actual fact, whether we pay it down or not, the interest payable is still the same as long as that $50,000.00 is sitting there, okay, so paying it down, conservatively speaking, it reduces our loan and we all want our loans to be going down don’t we, but we over here we’ve got the flexibility to go and do with that money what want, in an emergency situation, hopefully we’ve got our buffers anyway, but we can go and use that cash as opposed to putting our hand up and saying mister bank can you give us that fifty thousand dollars back.