Offset vs. Redraw - Redrawing the balance!

Redraw vs. Offset is an ongoing debate. The consensus is that Offset is better if you consider Warren Buffett’s number one rule:

"Rule No. 1: Never lose money. Rule No. 2: Never forget rule No. 1."

Offset or redraw are both an investment. A very low risk one, but not a place that anyone is going to want to lose money.

What are Offsets or Redraws

A redraw or an offset allows mortgage holders to reduce the amount on their loan, allowing customers to save thousands in interest. Both allow withdrawals later, giving the homeowner tremendous flexibility.

The key difference is that a redraw is paying off the loan directly, whereas an offset is a transaction account that can be used for everyday banking but also reduces the loan amount. 

So if you have an extra 10k saved and a 250k mortgage, both a redraw and offset will reduce the interest payable to 240k. 

The case for an Offset

Offsets are the most flexible, they act essentially like a transaction account and an inverted savings account. Instead of paying interest, you are saving interest on your debt.

Benefits:

Downsides:

  • More expensive, lenders charge higher interest or a fee.

Why Redraw

A redraw is specified tied to your home loan and is much simpler and all variable loans in Australia offer a redraw. It allows a mortgagee to withdraw excess payments. 

Benefits:

Downsides:

What is the most secure?

Redraw is generally looked down upon, SMH writes "If you have extra money in your mortgage, get it out now". The ME debacle confirmed many people's fear that a redraw isn't safe and you can lose access to the capital. Hopefully, the criminal prosecution of ME by APRA will put to rest some of these concerns. But even in all these instances, the borrower will not lose money, but their cash flow will be affected.

So going back to Warren's quote, what we don't want to do is lose money. An offset by contrast is Government Financial Claims Scheme which means its in theory protected, but this legislation has not been tested and there are several scenarios that a deposit in an offset won't be fully refunded outlined from a unamed senate enquiry:

  1. ADI exceeds the deposit guarantee of $20 billion, this applies to the deposit of the parent and subsidiary banks, including the 250k per person limit.
  2. Retail deposits (bail-in) are used to stabilise a bank. Like what happened in Cyprus.
  3. A Bank struggles and uses deposits for a bail-in but doesn’t “fail” and trigger the guarantee.

A bank failure would be unusual but it’s not impossible. But the claim an offset is more secure than actually paying down the mortgage via a redraw is dubious. 

So, why not have both?

The best bit is that a redraw and an offset are not a binary decision, you can have both. You can use both for their advantages. An offset for its flexibility for small amounts and for large deposits, the redraw for its security.

 

 

 

This article was updated on October 3, 2021

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