Understanding how an offset account works and the implications of having more money in your offset account than your loan balance is crucial for optimising your financial strategy. Here’s a guide to help you navigate this scenario.
How Does an Offset Account Work?
An offset account is an everyday or transaction banking account linked to your home loan. The money you deposit in this account offsets the balance of your loan. This means the bank calculates interest on the difference between your loan amount and the money in your offset account.
For example, if you have a $400,000 mortgage and $100,000 in your offset account, you will only pay interest on $300,000 of your loan balance.
What Happens If My Offset Amount Exceeds My Loan Balance?
If you find yourself with more money in your offset account than your loan balance, here are the key points to consider:
Financial Efficiency
- Continuity: Your loan will not automatically close if your offset amount exceeds your loan balance. Regular repayments will continue, focusing on reducing the principal balance.
- Opportunity Cost: Excess funds in your offset account do not provide additional interest savings beyond reducing your loan balance to zero. Since these funds do not earn interest in an offset account, they could be better utilised elsewhere to generate returns. Therefore, consider moving your surplus funds to a high-interest savings account or other investments to maximise returns.
- Liquidity Management: Keeping a buffer in your offset account is wise for financial flexibility, especially for emergencies. However, ensure that surplus funds beyond this buffer are strategically allocated to enhance your overall financial position, such as by placing them in high-interest savings accounts or other investments.
Is It Better to Overpay My Mortgage or Offset?
Deciding whether to overpay your mortgage or keep funds in an offset account depends on your financial situation and needs. Here’s a concise comparison to help you make an informed decision.
Benefits of an Offset Account
- Interest Savings: Money in an offset account reduces the principal on which interest is calculated. This lowers the amount of interest you pay on your home loan.
- Liquidity: An offset account allows you to retain liquidity, offering easy access to your money whenever needed. You can use this account like a regular transaction account for daily expenses, withdrawals, and deposits, providing financial flexibility for emergencies or other investments.
- Tax Efficiency: Interest saved through an offset account is not considered taxable income, unlike interest earned from a savings account.
Benefits of Overpaying Your Mortgage
- Interest Reduction: Extra repayments directly reduce your loan principal, decreasing the total interest payable over the life of the loan.
- Debt Reduction: Regular overpayments can help you pay your mortgage sooner, providing peace of mind and financial freedom.
Can I Offset 100% of My Mortgage?
Yes, you can offset 100% of your mortgage. This means that if your offset account balance matches your loan balance, you effectively pay no interest. However, your regular loan repayments will continue and go entirely towards paying down the loan’s principal.
Can I Overpay on an Offset Mortgage?
Yes, you can overpay on an offset mortgage. Extra repayments reduce your loan principal faster, thereby cutting down the overall interest payable. Here’s how you can do it and what you should consider:
How to Overpay on an Offset Mortgage
- Direct Extra Repayments: You can make additional payments directly to your mortgage. This reduces the principal amount owed, which in turn decreases the interest you will pay over the life of the loan.
- Increase Regular Payments: Adjust your regular repayment amounts to a higher value than the minimum required. This consistently reduces your principal balance faster than scheduled.
- Lump Sum Payments: If you receive a large sum of money, such as a bonus or inheritance, you can apply this as a lump sum payment to your mortgage. This can considerably reduce your loan term and interest costs.
Using Your Offset Account
While overpaying, you can also leverage your offset account for additional benefits:
- Deposit Extra Funds into the Offset Account: Instead of making direct overpayments, you can deposit extra funds into your offset account. This will reduce the interest charged on your mortgage while keeping the funds accessible for emergencies or other needs. However, make sure you don’t exceed your loan balance to avoid idle funds.
- Manage Regular Transactions through the Offset Account: Use your offset account for everyday banking. Have your salary deposited into it and pay your bills from it. The more money you keep in the offset account, the less interest you pay on your mortgage.
Considerations
- Access to Funds: While making extra repayments, ensure you maintain sufficient liquidity. Offset accounts offer easier access to funds than direct loan repayments, which may require a redraw process.
- Fees and Costs: Some mortgages have fees for making extra repayments, especially if it’s a fixed-rate loan. Check with your lender for any such costs. Additionally, offset accounts may come with higher interest rates or maintenance fees, so it’s essential to consider these factors.
- Loan Type: Overpayments are straightforward with variable-rate loans, but fixed-rate loans may have restrictions or penalties. Ensure you understand your loan’s terms before making additional repayments.
Final Thoughts
Balancing funds between your offset account and making additional mortgage repayments depends on your financial goals and situation. An offset account provides flexibility and interest savings, while overpaying your mortgage reduces your debt faster. Understanding each option can help you make informed choices, optimise your finances, and achieve your long-term financial objectives. Always consult a financial advisor to customise these strategies according to your personal circumstances.
