Introduction
When it comes to paying off your home loan faster and saving on interest, two popular tools often come up: offset accounts and redraw facilities. Both can reduce the interest you pay, but they operate differently and have different implications for flexibility, loan behaviour and tax. This article explains how each option works, compares their pros and cons, and uses a worked example to show how they can produce different outcomes depending on timing and use. We also highlight important tax considerations if you plan to convert a home to an investment property.
What is an Offset Account?
An offset account is a transaction account linked to your home loan. The balance in that account reduces the loan’s interest-bearing balance when the bank calculates interest. Example:
- Loan balance: $400,000
- Offset account balance: $20,000
- Interest charged on: $380,000
Pros
- Full flexibility: funds are available like any bank account.
- Interest savings: each dollar in the offset reduces the interest charged on the loan.
- Tax flexibility: because the legal loan balance isn’t changed by offset balances, an offset can help preserve the structure of your loan if you later change the property’s purpose — but see the tax section for detail
Cons
- Fees or feature premiums: offset facilities are often packaged with loan products that carry monthly or annual package fees or slightly higher advertised rates.
- Requires discipline: ready access to the funds can make it easier to spend the money.
What is a Redraw Facility?
A redraw facility lets you withdraw extra repayments you have made above the required minimum repayments. Extra repayments reduce the loan principal directly and therefore reduce interest charged going forward.
Pros
- Often lower direct fees: many basic variable loans include redraw at no extra monthly fee.
- Encourages repayment: money paid into the loan reduces principal immediately, accelerating amortisation.
Cons
- Access limits and fees: lenders commonly set minimum redraw amounts, may charge per-withdrawal fees, or restrict redraws on certain loan types (for example some fixed-rate loans).
- Less flexible than offset: funds placed as extra repayments are usually less convenient to access than money in a transaction offset account.
How they differ in practice (timing matters)
A common simplification is to say “they do the same thing” — but that’s accurate only under specific conditions. If exactly the same cash is applied to the loan at the same times and never withdrawn, the interest outcomes will be very similar. In real life, small timing differences (when the money sits in offset vs when it is applied to principal), the lender’s interest-calculation method (daily vs monthly), and repayment frequency can create small but meaningful differences in total interest and loan term.
Example Scenario
- Loan: $500,000
- Interest Rate: 5.50%
- Term: 30 years
- Standard Monthly Repayment: $2,838.95
Now, let’s compare two strategies where the borrower contributes an extra $5,000 per year (or $416.67 per month):
Option 1 – Offset Account
- The borrower deposits $416.67 each month into an offset account linked to the loan.
- This reduces the interest-bearing balance without actually reducing the principal.
Result:
- Loan paid off in 305 months (25 years, 5 months).
- Total interest paid: $365,514.35.
Option 2 – Extra Repayments (Redraw Facility)
- The borrower pays an extra $416.67 each month directly into the loan as additional repayments.
- This immediately reduces the principal, which accelerates the payoff.
Result:
- Loan paid off in 267 months (22 years, 3 months).
- Total interest paid: $366,506.26.
Key Insight
Although the total interest paid is almost the same in both scenarios, the difference is in how quickly the loan is repaid. By making additional repayments directly into the loan (redraw option), the extra money immediately reduces the principal balance after each repayment. This accelerates the loan payoff, cutting 38 months off the term.
With an offset account, the extra funds reduce the interest charged but don’t change the scheduled repayment amount, so the loan term shortens more slowly. The trade-off is flexibility: offset funds remain accessible, while extra repayments are less liquid.
Other considerations
Future property plans and tax implications — be careful
Tax rules in Australia require that interest deductions only relate to borrowings used to produce assessable income. If borrowing is mixed between personal and income producing use, interest must be apportioned. Importantly:
- Offsets: money sitting in an offset account reduces the interest charged but doesn’t change the legal loan balance. Withdrawing from an offset is treated like using savings, and that withdrawal alone does not automatically create a new deductible borrowing.
- Redraw / loan repayments: making extra repayments and later redrawing can create mixed-purpose borrowings that require apportionment of interest for tax purposes. The ATO and tax advisers commonly recommend careful record keeping and, where appropriate, splitting loan facilities (or refinancing) to clearly separate private and investment borrowings. Because these outcomes are fact-sensitive, get specific tax advice before making decisions that depend on interest deductibility.
Conclusion
Offset accounts and redraw facilities are both effective ways to reduce the interest you pay on a mortgage, but they’re not interchangeable in all cases. Which “saves you more” depends on timing, product details, repayment frequency, tax intentions and personal behaviour. If your decision is influenced by tax consequences (for example, you may convert your home to an investment property in future), get professional tax advice and check your lender’s product terms. A mortgage broker can also show how different lenders’ fees, offsets and redraw rules affect the real outcome.