Are Offset Accounts Really Worth It? A Look at Three Scenarios

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For many borrowers, an offset account seems like a no-brainer—a simple way to reduce loan interest just by depositing extra money. The idea is straightforward: the more you keep in your offset account, the less interest you pay on your loan.

It sounds like an easy win, but does it always work as expected? Not necessarily. The benefits of an offset account depend on your financial situation, and in some cases, it may not be the most effective option.

To better understand how an offset account affects your loan, let’s look at three different scenarios.

Scenario 1: The Borrower with $20,000 in Savings

Let’s begin with a borrower who has a $1,000,000 home loan and $20,000 in savings.

They are considering three loan options:

1. Variable rate loan with offset account

   >> Interest rate: 5.59%

   >> Annual fee: $395

2. Variable rate loan without offset account

   >> Interest rate: 5.49%

   >> Annual fee: $0 (includes a free redraw facility)

3. Fixed rate loan without offset account

   >> Interest rate: 4.94% (2-year fixed rate)

   >> Annual fee: $395 (no redraw facility)

   >> $20,000 savings is placed in a term deposit earning 3% interest

   >> Interest income is taxed at 34.5%

   
   

Let’s calculate the annual charges for each option:

1. Variable rate with offset account: (5.59% x $980,000) + $395 = $54,968

2. Variable rate without offset account: 5.49% x $980,000 = $53,802

3. Fixed rate without offset account: (4.94% x $1,000,000) – (3% x $20,000 x [1-0.345 tax]) + $395 = $39,882

In this case, the fixed-rate loan without an offset account is the cheapest option at $39,882 in total annual charges. Although the borrower has $20,000 in savings, the interest saved on that small amount isn’t enough to offset the higher rate charged on the full loan balance.

Scenario 2: The Borrower with $200,000 in Savings

Now let’s look at a different scenario, where the borrower has $200,000 in savings but still has a $1,000,000 loan. Again, they are considering the same three loan options.

Let’s calculate the annual charges for each option:

1. Variable rate with offset account: (5.59% x $800,000) + $395 = $44,947

2. Variable rate without offset account: 5.49% x $800,000 = $43,920

3. Fixed rate without offset account: (4.94% x $1,000,000) – (3% x $200,000 x [1-0.345 tax]) + $395 = $41,657

   
   

With $200,000 in savings, the variable rate with an offset account becomes the most cost-effective option. The $200,000 in savings reduces the loan balance on which interest is calculated, making the offset account more valuable.

The money in the offset account effectively earns an interest rate equal to the loan rate (5.59%), compared to the lower 3% offered by a term deposit.

Scenario 3: The Borrower Who Will Rent Out the Property

Imagine you buy a house with a $1,000,000 loan and have $200,000 in savings.

Right now, you live in the house, but in the near future, you plan to move out and rent it to tenants.

At this point, your loan turns into an investment property loan, which means you can claim tax deductions on the loan interest because the property is now being rented out.

Why Does an Offset Account Matter Here?

If your $200,000 savings is sitting in an offset account, it reduces the interest on your loan while it’s there. However, the actual loan balance doesn’t change—you just pay less interest because the offset balance is lowering how much of the loan is being charged interest.

Later, if you withdraw this money for personal use (e.g., buying a car or going on vacation), your loan balance stays the same, and the full loan amount ($1,000,000) remains tax-deductible for investment purposes.

But what if you didn’t use an offset account and instead had a redraw facility? A redraw facility lets you deposit extra money into your loan and withdraw it later. However, here’s the problem:

If you redraw $200,000 for personal use, then only the remaining $800,000 of your loan is still being used for the rental property. This means only $800,000 of the loan remains tax-deductible, not the full $1,000,000. You lose tax benefits because $200,000 of the loan is now linked to personal use, which isn't tax-deductible.

Using an offset account instead of a redraw facility keeps your loan structure clean for tax purposes. If you plan to rent out your property in the future but also want to keep access to your savings for personal use, an offset account is the smarter choice. It allows you to reduce interest while living in the home without affecting future tax deductions when you rent it out.

The Key Takeaway

Choosing the right loan depends on your personal circumstances. Here’s a summary of when an offset account makes sense:

For smaller savings (e.g., $20,000), a loan with an offset account is likely not worth it because the interest savings on such a small amount won’t outweigh the higher interest rate charged on the full loan balance.

For larger savings (e.g., $200,000), an offset account can be a valuable tool to reduce interest costs, especially if the savings make up a significant portion of your loan.

If you plan to rent out the property and may need access to savings for personal expenses, the offset account may be the better option. It helps ensure that your loan remains fully tax-deductible, which can save you more money in the long term.

Ultimately, to determine the best loan, consider your savings, future plans for the property, and how likely you are to use features like the redraw facility. By understanding these factors, you can make an informed decision that saves you the most money.