Mortgage Redraw Versus Offset , What Are The Differences?
As I write this blog, Covid-19 is winding down in Australia, and our economy seems to be showing the first twitches of life. The US presidential election is on in the background, and it will hopefully bring a bit of certainty to the world’s largest economy for another three to four years. The Australian Reserve bank has also cut the interest rate by a further 15 basis points to a new all-time low.
So hopefully, with all the doom and gloom of 2020 and the Corona Virus pandemic, we might just have a bit of a silver lining to our stormcloud. This morning as I go through the first email updates from banks, it is looking like the big four are only going to pass the cuts on in their fixed rate products in an attempt to lock clients in for a longer period of time as clients, while keeping as much margin as possible in the variable rate. I hope that the smaller lenders pass on the rate cut to their variable products and force the big banks to be competitive.
Many clients are opting to go on a variable rate at present in an effort to pay down their debt as quickly as possible. Unlike with a fixed rate home loan where there are penalties for paying over your extra yearly repayments cap or paying out the loan early. A variable rate home loan allows you to pay the loan off as quickly as you like. Most variable mortgages come with either a redraw facility or an offset facility, or both as a feature for client to use.
A redraw is basically a feature that allows you to access any extra funds that you have paid into a loan over and above your minimum repayments. These extra funds sitting there in the loan effectively reduce the loan balance and hence lower the interest component of the loan that you are paying, saving you money and reducing the loan term. When you want access to the extra funds, you can then “redraw ” them out of the loan and back into one of your transaction accounts for use for whatever you needed them for. Generally, your basic, no-frills variable home loans, with the cheapest rates and no ongoing monthly fee’s have redraw’s as a feature. Some lenders do charge a fee every time you would like to access that money, though, and this can be inhibitive in terms of people wanting to pull money out.
An offset account is a transaction account that is coupled to your home loan. Any balance sitting within this account “offsets” your current loan balance. As an example, if you had a $500000.00 loan balance and had $200000.00 sitting in your offset account, you would only pay interest on $300000.00. This also saves you money over the loan term in interest and shaves down the loan term. Usually, you pay a monthly fee for the privilege of having an offset account; however, some lenders still offer them for free. Talking to your local Mortgage Broker, can help you find the lender that will suit you here. Castle Mortgages are mortgage brokers based in Adelaide that are happy to assist in this matter. The lenders that do charge, usually call it a package, and the rates tend to be a smidgen higher than a no-frills home loan.
The first difference other than those already mentioned is ownership. The fine print of a mortgage with a redraw usually says that a bank can deny you access to the redraw if they so wish. While I have never seen this happen, it is a huge point of difference. Money that is in an offset transaction account is your money and can be accessed whenever you like. Next, a redraw account takes more work and management. You need to work out how much extra you will deposit into the account and request a redraw should you want those extra funds, so more forward planning.
An offset account just sits there, and any money you deposit into it is working. Your usual automatic debits etc, will still go on, so basically, it works on its own. An offset account is also more efficient in using all of your available cash to work against the loan. Many people will have their salaries deposited into that account and have their savings there. As the month goes on, the monthly bills will whittle the account down, but every dollar you have is working against the loan. With a redraw, we tend to only put over any extra money that we think we will have leftover at the end of the month, so in that respect, an offset in my eyes is more efficient and convenient. However, as discussed earlier, an offset normally costs more in fees and interest rates, so it requires a large amount sitting in it to justify having it.
The best thing to do would be to have a robust conversation with your mortgage broker about your specific financial needs regarding a loan. We at Castle Mortgages would love to be your mortgage broker, so get in touch.
Please remember that this is a blog, not financial advice. Everyone’s financial circumstances are specific to them and should be individually looked at. You should always speak with a professional in the relevant field before making any decisions.