The secret to minimising interest on a fixed rate home loan.
Not all fixed rate home loans are lacking in features.
Today, home loan lenders offer the ability for fixed rate borrowers to make additional repayments, use redraw facilities, and take advantage of 100% offset and partial offset accounts.
How do fixed rate home loans with 100% offset accounts work?
Fixed rate mortgages let you ‘lock’ in a rate for a set period when you sign up to the loan. Lenders tend to offer different rates depending on the length of your fixed term, which will usually range between one and five years. Some lenders also offer fixed rate terms of as little as six months or as long as 10 years.
A fixed rate loan with a 100% offset account lets you link an account to your mortgage, with the balance of that account offsetting your principal loan amount. This can save you a considerable amount in interest, and can actively encourage you to save money. As this is a 100% offset account, the entire amount in the account can be used to reduce your principal.
Donny’s offset account
Let’s compare two scenarios with Donny, our savvy borrower.
In the first example, let’s say Donny has a home loan with a rate of 6%. His loan size is $400,000, meaning his repayments are approximately $2,398 a month. At this rate he’ll pay a total of $863,353 over the course of the loan, $463,353 of which is interest.
If he has an offset account and keeps $20,000 in it over the course of his loan, he would pay off his loan three years earlier, and would save $55,759 in interest.
His repayments would still be the same, but more of each repayment would go towards the principal (the loan amount) then the interest due. This would pay the loan off earlier.
How to compare these types of mortgages
- Fixed term. Think about how long you want to be locked into the rate. As mentioned, terms can range from one to as many as 10 or even 15 years. Choose a term which you’ll be comfortable with, and remember that break fees are payable if you exit your loan before the term ends. If you plan to sell your property in the future ensure your fixed term accommodates this.
- Fees. These type of loans may come with upfront and ongoing fees that could negate the savings you may make in the long run, so remember to take these into account.
- Additional features. As well as an offset account, the home loan may offer you other features, such as a redraw facility, the ability to make additional repayments, or it may come as a package that offers discounts. Check to see if you stand to make any further savings.
Pros and cons
- As the interest rate is fixed your repayments will remain the same during the fixed period
- The balance you have in the offset account will be taken off your principal loan amount, actively helping to reduce the amount of interest you pay
- The interest in your offset account can be tax-deductible.
- You’re unable to refinance during the fixed rate period without incurring expensive break costs, which may mean you lose out on a much better deal if rates are cut.
Things to be aware of about fixed rate home loans with offset accounts
As with all home loan products, there are a few things to consider before applying. Some offset accounts come with account-keeping fees, so you should look into what you’ll be paying and whether this will eat into your savings.
Offset accounts are also not offered on all fixed rate loans, and may only be offered on more fully-featured home loans. These loans tend to come with higher interest rates and fees, so be sure to calculate the costs of the loan in regards of the savings you’ll receive.
Frequently asked questions
Can you use a 100% offset account to make a home loan repayment?
Yes. The accounts are linked and you can nominate it as your chosen account, but keep in mind this would reduce the balance in your account and affect the interest you pay on your home loan.
Does the offset account earn interest?
No interest will be earned on the balance in your offset account.
What is the role of the offset account in reducing interest paid?
Once a person acquires a home loan, the bank will make arrangements so that interest is calculated based on the outstanding principal on a daily basis. This then adds up to show the monthly interest balance on your statement.