LOC or OFFSET Does it Matter really?

There are similarities between the two however an offset is more flexible – especially if you come to reuse the funds for a non-investment purpose. That is, if you have a LOC you need to keep track of your expenditure eg buy new curtains, fences, clothes, tv etc however if you have the same amount in an offset, you have not paid this amount off your loan/it is still your money, you can do with it as you will – you may even consider having a mix of LOC and offset so that personal expenses come from your working account and the building expenses go onto the LOC.

Dear Terryw

what is the tax difference then, and which one should I choose if I want to use equity on the home I live in to buy an investment property?

Cheers

K

Tax consequences:
 – redrawing from a loan, whether it is a LOC or a standard loan, is considered new borrowings
– Interest on borrowings are only deductible if the money was used for investment or business purposes

– Putting money into an offset account is not putting money into the loan. It is a separate account, so
– taking money out of an offset account is not new borrowings.

eg. say you had an investment loan of $100,000 and then won $50,000 at lotto. You decide to put it into your LOC/Loan for a week before you buy your ivory back scatcher. You want to save interest and think it is a good idea. Your loan drops to $50,000 and you save some interest. A week later you buy the back scratcher – but you no longer have the money so you must borrow it from your loan.

Your net loan is still $100,000, but only $50,000 of it is deductibe.

Now, say you used a 100% offset account instead. Your loan would remain at $100,000 all the time, but you would only pay interest on $50,000 for the  week you had your money in the account. You would save the same amount of interest. But when you take the money out of the offset account, it is not new borrowings. So the deductibility of interest is not effected.

Imagine what would happen if you had a LOC on an investment property and were getting your salary and rents put into this account – your overall loan balance may slowly go down, but your deductible part is rapidly decreasing (assuming you are withdrawing living expenses) so after a few years you may have a similar balance to what you started with, but without the ability to claim any of the interest.

I would only use a IO loan with a 100% offset account attached for any investment property. Never a LOC.

I would only use a LOC for accessing the equity portion of a property, whether owner occupied or investment. The LOC should then only be used for investment expenses such as paying rates, deposits, insurance and even interest on other loans. You should consider letter the interest capitalise or just paying the interest each month until your personal home loan is fully paid off. And even then i would be putting my spare cash into a 100% offset account – just in case you want to buy a personal item. Once you deposit the money into the loan there are tax consequences.