I often have clients who come to my office and tell me that they want a home loan with an offset account? When I ask why, most can’t really answer the question. For those that can, the answer usually has something to do with advice received at a BBQ.
Banks, credit unions and building societies have done a wonderful job of selling the offset account feature. Its true, for those with plenty of money there are savings to be had. The problem with the offset account sales job that most lenders have done, is that they have sold offset account products indiscriminately. The result being many people with the feature pay substantially more, through either annual fees and/or higher interest rates, to have it than they will ever save.
What is an offset account?
An offset account is an everyday bank account -just like any savings or cheque account that you can have at any bank It becomes an offset account when it is linked to your home loan.
Interest on your home loan is calculated everyday on the outstanding balance. Each day’s interest is then added up and charged to you at the end of the month. If you have an offset account the outstanding balance on your home loan is the difference between the 2 balances. For example, if you owe $100,000 on your home loan and you have $5,000 in your offset account that day, your outstanding balance will be $95,000 – and interested is calculated on this amount. The balance in your offset account does not earn interest – not even that .001% that some everyday accounts pay, it saves you interest on your home loan.
Sounds good right? Except how many people have $5,000 in their everyday account, everyday? – The answer is not that many, and most have considerably less.
If the feature was free it probably wouldn’t be such a big deal but that’s the point. Almost every lenders charges extra for an offset account. This can be in the form of an annual fee of upto $400, a monthly account keeping fee or a higher interest rate.
Let’s go back to our example. The stated interest rate on your loan should be around 4%. If you have $5000 in your offset account everyday of the year and you are paying 4% on your mortgage then you are saving yourself $200 in interest per year. If you have less than $5000 then the savings will be smaller. (The reverse is also true). In this scenario if you are being charged more than $200 to access the feature, its costing you more than you are saving.
And one more thing. Most variable rate home loans offer a free redraw facility. What does this mean? Well if you put the $5000 into your home loan account you could have the same saving without the cost, and still have access to use the money (redraw) in the future.
The best way to get ahead on your home loan is to have a product that is right for you. That product might not necessarily be the one with all the bells and whistles.
Margaret Godfrey is a mortgage broker in Newcastle who is passionate about helping people understand the mortgage market so they can make confident decisions about their finances. If you want more from the relationship then someone to process your transaction give her a call on 0451 471 061