Offset Account Question

[lailai]

Hello Everybody
I'm new here and learning
Was wondering if anyone can clarify offset accounts for me please.
I undertand that an offset account reduces interest on the loan
How does it work ?
a) the balance in the offset account is used to reduce the principal on which interest is calculated for the loan or;
b) the interest on the offset account is offset against the interest on the loan account ?
Say I had $50K in an offset account and owe $50K on the loan. Does this mean I pay no interest as one $50K offsets the other 50K balance ?
Thank-you

 

[The Y-man]

a) the balance in the offset account is used to reduce the principal on which interest is calculated for the loan ....

Say I had $50K in an offset account and owe $50K on the loan. Does this mean I pay no interest as one $50K offsets the other 50K balance ?
Thank-you

It offsets the pricipal for the purposes of interest calculation only.
The principal is not actually paid off (different from early repayment/redraw) which may have tax implications.

Cheers,

The Y-man

 

[alexlee]

Think of the offset account as a separate account (therefore funds are separate for tax purposes) that pays the same interest rate as you pay on your mortgage.
Alex

 

[tubs]

My understanding is that it WILL pay the principal off because the interest on your loan will be less (if there's money in the offset) so your regular repayment will have a smaller interest component and a larger principal component.

 

[doreilly]

Hello Everybody
I'm new here and learning
Was wondering if anyone can clarify offset accounts for me please.
I undertand that an offset account reduces interest on the loan
How does it work ?
a) the balance in the offset account is used to reduce the principal on which interest is calculated for the loan or;
b) the interest on the offset account is offset against the interest on the loan account ?
Say I had $50K in an offset account and owe $50K on the loan. Does this mean I pay no interest as one $50K offsets the other 50K balance ?
Thank-you

a.

For P+I loans. The amount paid will reduce the principal quicker.
For IO loans. The amount paid per month will be reduced.

 

[lailai]

Thank-you everybody. But why choose a redraw facility over an offset account ? For interest purposes, both have the same effect except that with a redraw, you place the money in the loan and pull out a big chunk. Whereas with the offset, it's more liquid ?

 

[The Y-man]

Thank-you everybody. But why choose a redraw facility over an offset account ? For interest purposes, both have the same effect except that with a redraw, you place the money in the loan and pull out a big chunk. Whereas with the offset, it's more liquid ?

Mainly tax considerations.

If you draw out of an offset and buy income producing investments, you can not claim the interest costs. If you use redraw for income producing purposes, then the interest costs for the portion redrawn can be deducted from your taxable income.

Cheers,

The Y-man

 

[alexlee]

I think it was Simon who suggested the most flexible loan type (especially if it's a PPOR) would be a loan with free redraws AND an offset account. Put extra payments into the offset account initially.

1) If you want to use that money for private purposes (e.g. buy a car) then just take it out of the offset account.

2) If you want to use that money for income-producing purposes (e.g. buy shares) then put the offset money into the loan, then redraw it. (That amt is now tax deductible.)
Alex

 

[lailai]

Thank-you. Now I understand

 

[poppy]

Y-man, I believe that if you draw money out of an offset account to buy income producing investments that it will be deductible under the right circumstances.

For example, I take out a loan secured against my PPOR which I own outright, and use some of it for a deposit on an investment property (taking out a seperate IO loan for the IP). I place the rest of the loan funds in an account to offset the loan secured by my PPOR. I then continue to draw funds out of the offset account for interest and other expenses for the IP, and deposits on other IPs. I never take funds out of the offset for private purposes. I regularly pay extra money into the offset account. I believe that the interest is deductible in this case.

 

[Tasman]

2) If you want to use that money for income-producing purposes (e.g. buy shares) then put the offset money into the loan, then redraw it. (That amt is now tax deductible.)
Alex

This only works if the offset linked loan is non deductable such as PPOR loan. You then have an issue of a loan with private and investment drawings.

On the other hand if the loan is an investment loan then putting your money into the loan reduces your deductable balance which is then restored by the withdrawal to pay for the IP expense. Net result is the IP expense has not increased your deductable interest.

A more effective method is to have all your revenue go into an offset account, and pay all expenses from an IP loan such as a line of credit dedicated to IP expenses. Never pay down the IP loan unless you specifically wish to reduce your IP debt.

As Popy has pointed out it depends on how your loans and offset accounts are structured and utilized.