David Johnston wrote this article for Property Weekly which is a real estate magazine reaching in excess of 220,000 readers every week and is delivered free to more than 70,000 homes each week.
The offset account is the bank’s greatest invention!
Most people understand that an offset account will reduce the interest payable on your mortgage 356 days a year in exactly the same way the interest would be reduced if it was paid directly into a loan. What many people are unaware of is that there are many more ways that the effective use of offset accounts can enhance your ability to pay less tax, hold properties, manage risk and improve your cash flow. I have highlighted below just four examples of how an effective mortgage strategy can help you save money and create wealth, before even selecting a great rate:
Planning to optimise future investment deductions
This is most commonly achieved through planning for the possibility that the purpose of a property could change from a home to investment or vice versa. In this instance, placing your additional repayments into an offset account rather than the loan directly means that by preserving the balance, whilst still reducing the interest through credits to the offset, should this property become an investment, you move the offset account to link to another loan, and still claim all the interest on the loan given the balance itself has only been minimally reduced.
Holding existing properties as you accumulate future properties
This is linked to putting in place strategy number one above. This forward-thinking mortgage strategy can not only be used to preserve the potential for future tax deductions, it also has the flow on benefit. For example, if a current home becomes an investment, you enhance the financial benefit of having more deductions on the ‘old home’ that is now an investment. And if you are upgrading, you will have more cash in the offset to put towards the new home, meaning you will have less ‘bad’ non-deductible debt. A win/win on both sides of the equation!
Enhancing the effectiveness of your money management system
Offset optimisation will ensure every dollar reduces your interest whilst being spread across multiple savings buckets within an effective Money Management System. These buckets allow you to separate spending between categories such as fixed expense, variable necessities, entertainment, investment and more. It is important to be aware that not all lenders allow for multiple offset accounts and not many mortgage strategists will guide you on how to set up an effective Money Management System.
Your ability to manage risk
Effective use of an offset strategy can increase cash flow and savings buffers by placing more surplus funds into your offset accounts, and less directly into your loan that you may not be able to access if you need it. This may seem counter intuitive, and incidentally many mortgage strategies are – this is why effective money management is a starting point for most mortgage strategies. Unsurprisingly, it is the starting point for wealth creation.
While you should ‘pay off’ your mortgage as rapidly as possible, you can achieve this via a combination of direct credits to the mortgage and an offset account – it does not need to be one or the other.
As importantly, risk management through enhanced cash flow and having more available cash not only protects you during life events where income or expenses fluctuate, it also increases happiness. Research suggests one of the top three keys to feeling happy or content in life is feeling good about your financial state of affairs. And the prime way people emotionally relate to their financial situation, as the evidence suggests, is based on their cash flow and accumulated savings or accessible funds. So, in other words a great mortgage strategy also will make you happier.
These four strategies are just scratching the surface of offset optimisation with mortgage strategy.
For aspirational individuals who plan on owning two or more properties, mortgage strategy is a critical piece to the puzzle. If you get the above-mentioned benefits right, through to the flexibility stage of life, it can equate to hundreds of thousands of extra dollars in your pocket through retaining properties (that you would have had to sell otherwise), optimised tax deductions over a lifetime, improved cash flow and reduced interest.
“Understanding what your offset account can do for you” was first published on Property Weekly on July 19, 2019.