Offset Mortgage or Revolving Credit Account?

4 October 2016

Do you have both a savings account and a mortgage? It must feel like the bank are borrowing from you and then lending your own money back at a higher rate. Well, in some ways, that’s exactly right. Luckily some types of mortgage can help you out in this situation: offset mortgages and revolving credit accounts.

What is an offset mortgage?

Offset mortgage explanation

An offset mortgage account allows you to designate a set number of accounts (savings and everyday) where you hold a positive balance to be offset against the balance of your mortgage.

You only pay interest on the balance of your mortgage account minus the balance of your offset accounts. This is opposed to paying interest on your home loan and simultaneously earning interest on your savings.

For example, if you have a mortgage of $250,000 and savings of $15,000 then you only pay interest on $235,000.

The flip side of this is that your designated offset accounts with a positive balance do not earn interest. 

How does it work?

An offset mortgage is based on a floating rate and can enable you to pay off your mortgage quicker and might save you thousands of dollars. These mortgages usually have no fixed term and there are no early payment penalties. With an offset mortgage you get to keep your savings account and withdraw money from it as you wish. Taking money out of your savings will act like an extension of your mortgage, increasing your interest component of your payment (because the money will no longer be offsetting the mortgage). Conversely, if you make deposits in to your savings account then interest component of your payments on your mortgage will decrease.

If you have money left over at the end of the month you might decide to make an extra mortgage payment (permanently decreasing your principal) or to put the money in to your savings (increasing your offset and hence decreasing the amount you pay interest on). The difference is that if you make an extra mortgage payment you can’t get that money back at a later date i.e. redraw it.

Offset loans have the added advantage of not having to pay any tax on your interest income from savings (as this account is not earning interest).

 

Advantages

Lower mortgage interest payments.

Pay off your mortgage faster.

No fixed term.

Access to your savings.

No tax on savings.

Disadvantages

Interest rates can be high

You cannot redraw lump sums you have made as early payments

Can’t lock in favourable rates for a fixed term

Need to have accounts with positive balances to make it worth while

Savings account will not earn interest, so will not grow and compound

 

What are family offset loans?

Some home loan providers, such as Kiwibank, even let you offset your mortgage against the savings account of your parents, partner or children. This enables your relatives to help you with your mortgage without having to directly loan you any money. Note that in doing so they sacrifice any interest earned on their savings.

 

Can I use my Kiwisaver to offset my mortgage?

No, unfortunately you can’t offset your mortgage against your Kiwisaver account.

 

What is a revolving credit mortgage?

A revolving credit home loan is one big account for all of your transactions. It acts as a large overdraft with a limit to the total amount you can borrow. Your income and savings go in to the account and your expenses and interest payments are taken out. Your income and savings effectively offset your mortgage by reducing the balance of the loan. Any money you spend increases the balance of the loan and you are charged interest accordingly. You only pay interest on the balance of the loan and you can pay the loan off at any time.

How does it work?

A revolving credit account is based on a floating interest rate and has no fixed term. The credit is ‘revolving’ because you can borrow and repay funds over and over. This means you are able to make lump sum payments to reduce the balance of the loan, or large withdrawals to increase the balance of the loan up to your limit. The idea is that if you earn more than your total expenses and interest payments then the loan will naturally decrease over time. However, if you need the extra credit then it is available to you.

This type of account is best for people with irregular incomes like self-employed contractors or seasonal workers. Revolving credit suits good budgeters who are disciplined with their money. It can also be beneficial if you plan on making a series of home renovations over a period of time as it enables you to draw credit as necessary without multiple fees and loan applications.

 

Advantages

Offset your mortgage using your income

The ability to draw credit multiple times

All of your transactions in one place

No prepayment fees

Good for irregular income earners

Disadvantages

Hard to keep on top of all payments

Temptation to take on debt you can’t afford

Can’t lock in rates (if rates go up so do your interest payments)

No interest income on savings

 

Differences: Revolving Credit vs Offset Mortgage

The key difference is that an offset account keeps your savings and everyday accounts separate to your mortgage. On the other hand, a revolving credit lumps all of your finances together in a single account.

Further, a revolving credit allows you to redraw credit a number of times. An offset mortgage won’t let you redraw your credit, but you will have access to your savings account if required.

 

Can I get these accounts in New Zealand?

At the time of writing this blog we founds offset loans were available from Kiwibank, Westpac and BNZ while revolving credit mortgages were offered by ASB, BankDirect, BNZ, Kiwibank, The Co-operative Bank and Westpac. You can view these on our mortgages comparison table. There are also mortgage managers like NZ Home Loans who can work with you to tailor a product for your circumstances.

These products are best suited to those who are disciplined with their spending. They might be difficult to get if you have a poor credit history and low equity. 

 

Summary

Both offset mortgages and revolving credit accounts are reasonably complex products compared to a standard mortgage. Each product has features that can make an enormous difference to the amount of money you a) pay off your mortgage and b) have available to spend.

Understanding whether these products are a fit for you is the key point when you are assessing whether to sign up to one. Your bank lender or mortgage broker should be able to help in the assessment of your personal finances and advise.