What to do when your offset account matches your mortgage loan value

As part of any financial plan, in addition to prioritising investment and super, we also prioritise paying off all debt. This includes your mortgage debt.

Why? Because until you pay off your house, that house isn’t yours but one you are renting from your bank.

Paying off your house is a huge milestone but it can be a little bit confusing what it means when you actually do.

Offset Accounts

Most clients I work with have offset accounts.

Offset accounts allow you to save money in a bank account you have control over but where the savings offset (reduce) the interest you pay on your loan.

For people who value a lot of flexibility they can find their offset account gets very large (sometimes hundreds of thousands of dollars).

If they focus on diligently saving, eventually their offset account matches the loan amount.

This is usually when we talk about what this means.

So what does this mean?

Once your offset account value matches your loan account value, for all intents and purposes, your house is paid off.

Whilst the bank is still involved, at any time, you could take that money, pay it to the bank and never have to deal with the bank again.

In addition, you should now be paying no interest whatsoever.

So do the payments stop?

This is where things get a little complicated. Whilst your house is paid off and you are paying no interest, the repayments continue.

This means every month that money comes out of your offset account and goes to the loan. This doesn’t mean you are any worse off financially however.

The best analogy for this is your friend gives you $100 from his RIGHT pocket and tells you to pay it back at $10 per month.

You give your friend the full $100 back straight away and he puts it in his LEFT pocket.

At this point, you have paid your friend back.

Every month your friend takes $10 from his LEFT pocket and puts it in his RIGHT pocket.

Whilst your friend is moving money around for his own reasons, you still have already paid back your $100 and don’t owe him anything more.

Should you close the loan?

Once you have the money, you can also pay it back and close out the loan. You do this by contacting the bank and asking them for a payout figure and what they need for you to close the loan.

The money will then be paid out and the loan extinguished.

From a purely financial perspective, it makes sense to keep your loan open. This gives you a lot of flexibility around reborrowing the amount or using it as an emergency fund if something was to go drastically wrong.

There is almost no cost for this except perhaps a yearly account keeping fee.

But in a practical sense, unless there is a specific reason, I usually encourage my clients to pay it off.

Why? Because having done this job for many years, I’ve seen many people pay off their loan and then end up going backwards. They start drawing on that offset account for renovations, trips and other things and suddenly they find themselves with a mortgage again.

Even if they don’t draw on it, the large amount of money set aside can create a false sense of security that you have a lot of savings. Remember, this isn’t your savings, this is money for the bank.

What should I do if I leave the loan open?

If you are going to leave the loan open, I usually suggest working out why you are doing so and how long you intend to keep it open.

I then usually suggest you make your offset account match your loan account to the dollar. For example, if your loan account is $644,214. Your offset account should be $644,214.

Finally, I then suggest you open another bank account (perhaps even with a different bank) and change all of your pay and direct debits to go to this account.

The idea is to treat your offset account and loan account as if they don’t exist.

The goal of this is to remove the temptation to spend from the account and to remind yourself that if you consider your house paid off, that money is no longer yours.

If you’re getting close to paying off your house and are wondering what else you should be doing, then please reach out. We work with clients all over Australia and would love to hear from you.