Loan Tip: Not everyone needs an Offset Account

Offset accounts are great and most people should have at least one offset account, but there are situations where an offset account is not necessary.


Three situations I can think of are

a) Someone with low cash savings, and unlikely to have cash savings

b) Where the interest rates are higher on offset loans

c) Where there are large annual fees


Example

Loan product with an offset account is 3.8% and without an offset account is 3.4%

Interest on $100,000 at 3.8% = $3,800
interest on $100,000 at 3.4% = $3,400

The question is at what point does 3.8% rate equal $3,400 and working backwards this seems to be $89,474. so this means $10,526 in an offset or more could result in savings

Therefore,
interest on $100,000 at 3.8% with $10,526 in an offset = $3,400
Interest on $100,000 at 3.4% with no offset =$3,400



So this means unless the borrower has $10,526 in the offset, or more, they would be better off without an offset account.

Also offset loans often have a $395 annual fee. So that might mean about $20,000 is needed to be ahead.


Another situation where an offset may not be needed is where a person intends to smash the loan down and has no intention of investing. But in these cases I would probably suggest an offset account because circumstances change unpredictably.

Edited as I had the calcs wrong, thanks Krusty for pointing out the mistakes

 

I’m very new here, but I think your calculations need some work. You don’t need 100 or 200k in an offset to cover those amounts,like you suggest. And 3.9-3.4 is .5 not 0.4

 

Hehe
But seriously, won’t 20k in offset negate the difference and cover the annual fee?

 

Thanks Krusty, I am no mathematician so I changed the 3.9% to 3.8%. and re did the

So on a rate difference of 0.4% wouldn't this be the case
Interest on $100,000 at 3.8% = $3,800
interest on $100,000 at 3.4% = $3,400

I guess the question is at what point does 3.8% rate equal $3,400 and working backwards this seems to be $89,474. so this means $10,526 in an offset or more could result in savings

Therefore,
interest on $100,000 at 3.8% with $10,526 in an offset = $3,400
Interest on $100,000 at 3.4% with no offset =$3,400

 

Thanks Terry and Krusty! Interesting topic for me at the moment. I've always been on the offset train.. "must have offset !!" I'll need to sit down and work out if it is really needed for us now.

 

the tax effects must be considered also, without an offset a person would be more inclined to pay down a loan.

 

Timely topic. I'm planning to refinance and looking at the % difference between variable and fixed to decide whether the flexibility is needed, and worth it with the higher rate

How so?
.

 

Yes the fixed issue is another angle, generally no offset accounts on fixed loans.

I see people all the time who put money into a loan thinking they can take it out later with redraw and don't fully think of the tax consequences.

 

Historically the package loans have usually had cheaper rates than the basic loans. Beyond about $250k in lending, it made sense to go with the package despite the higher fees. The offset account and credit card included are a bonus.

Now we're seeing some lenders offering cheaper rates on the basic products.

Offset accounts still make sense when there's a greater strategy behind them, but on a non-deductible loan where the goal is to simply pay it off, a basic loan may be the more cost effective option.

The interesting thing is, that most lenders are reluctant to negotiate on anything but their package loans. As a result people might find themselves in a basic loan which suffers from 'rate creep' in the future.

The thing I do know is that lenders have multiple ways of messing with rates to take advantage of borrowers and they plan this very well. Going for a cheap headline today is unlikely to remain that way in the long term.

 

Is it really like $500 extra a year if a person wants an offset account ?

Seems and expensive cost if it really is is amount ? OR was this just an example amount ... ?

 

Depends on the bank.
I pay $395 with CBA and $248 with Macquarie

 

it was just a figure I plucked out of thin air, but as an example
ANZ OO simplicity plus is 3.97% for greater than 80% LVR, no app fee or annual fees and no offset
But their SVR fr say $250k is 5.03% under the package with an annual fee of $395
you would probably get some further discounts off the package but it would still be much more costly.

 

It's also worth noting that fixed rates in a package are usually cheaper than the vanilla product. I don't know if I'd fix right at this moment, but it is worth keeping in mind for future planning.

 

Charging a few hundred dollars every year to have this facility seems expensive to me.
I mean, is it that expensive for their computers to do the calculation ?

Of course, there is the initial software development cost that would be paid for after the 1st few years of charging these rates.

Or maybe, its just charging what people will pay, and it is unrelated to the banks cost of actually providing this feature.

 

charging people as much as they can get away with I guess.
Plus collusion with other banks keeps the borrowers options limited.

 

Very rarely is an offset provided without a package so I think to be fair you need to look at it as a whole.

With a lot of packages you also get access to a rewards based credit card where they will waive the annual fee, some themselves around the $300 mark.

If you have one of these cards you can then combine it with the offset in a 2 pronged attack.
Pay for everything with the credit card to leave funds in your offset for longer hence saving on interest (just be sure to pay the card off before the interest free period). Then reap the benefits of the cards rewards points.

Throw in some free travel insurance and
If done correctly this will put you way ahead of any basic loan.

However for this to work you need to be diligent. It’s not for everyone! All it takes is a holiday because of free travel insurance and some cheap flights with your rewards and your now way behind.

I fall into the latter but I like to take an annual holiday anyway so I’ll tell myself it’s a good strategy

 

Well it depends, like @Terry_w mentioned what do you wish to use offset for?
I personally would always set up with offsets, as those few hundred dollars are irrelevant to me in my case, perhaps because I have more complicated structures, more loans, more entities, BUT other reasons include:
- the choice of having 'anytime access' to my excess cash (rather than the financier I decide), having that financial flexibility is worth much more to me.
- use some offsets as my buffers for my RE investing (in case unforeseen financial circumstances).
- use to park excess cash from other sources (like your business/trust).
- I like ....sometimes earning more in offsets by parking my funds there rather than saving via savings or term deposits.

This is in similarity as how I view the actual interest rates charged on my IPs. I was never after the lowest interest rate only, to me more important was the total structure rather than just one part of the product.
I don't mind paying higher interest if I have portability, flexibility, better valuations or calculators enabling me to access more funds when required.
I like to compare this to baking a cake. We require recipe, materials, appliances, power, place etc... method to bake it... but whether I will buy and use organic sugar or flour or bake it on gas or electricity..or etc... is just a mix of steps necessary really to bake my one nice tasting cake!

 

Generally the no offset needed aspect works better with smaller loans as the fees can be a high percentage of the costs on these.

 

Thanks Terry, this was good to know, and I used your calculations to test my situation.

My IP is on an offset account (the difference was only 0.1% cheaper if I went with no offset). Therefore it was a very small minimum amount that I needed to put into the offset to make it worthwhile. Also no fees for the offset account (it was waived).

I am currently looking to refinance and see which bank can offer a better rate, but I think I need to keep the offset for the following reasons:

1. I have enough cash savings sitting in the offset which "saves" me a decent amount per year, more than a savings account.
2. I don't play in other investment strategies (no shares for which I need capital to move around).