money in offset or ING

The new loan for the new IP has an offset account. We are both earning approx 50k. The loan interest rate is 8.92 (not factoring in the last rate drop).

Can some math guru work out whether its better to be saving money in the offset (reducing the interest somewhat and also reducing the negative gearing by a smaller percentage) or saving into INGdirect (at 7%) but paying tax on interest?

For assumptions sake, assume we were planning to save up 20k over the next year.

Is it better to do it through the offset or via ING?

 

Hi Voigstr,

8.92% is clearly a higher rate of interest than 7%.

At 8.92%, before tax you are actually earning 8.92% / 0.685 = 13.02%
13.02% before tax in your offset or 7% before tax in ING?
These returns are for taking the same risk as well...

Being an IP your losing the tax benefit anyway (by whacking it in your offset (being an investment property) so it comes back to the 8.92% still being higher than 7%

Cheers,

Dan

 

Hi Voigstr,

Dan I think you are slightly wrong, because this is an investment, the 8.92% is before tax. Another way of thinking about it is:

Putting $1000 in the offset account, you do not have to pay the interest of $89.20, so you get to keep this money. You will now have more income (as you have reduced you tax deduction), so you need to pay tax of $28.10 ($89.20*0.315). This means you have an extra $61.10 in your pocket (after tax).

Putting the $1000 in the ING account, you earn $70. This is income so you pay tax of $70 * 0.315 = $22.05. Now you have $47.95 left in you pocket.

So the question is which is better $61.10 in your pocket (Offset), or $47.95 in your pocket (ING)?


Because both the IP and the savings accounts are 'investments', the better return is simply the higher rate. 8.92% vs 7% (before tax) or 6.11% vs 4.80% (after tax).

 

Isn't that what my last paragraph said???
(maybe I padded it too much )

 

This is the bit I think is wrong. As this is an IP than the 8.92% is already before tax. So you can not gross it up like you have.

(Please let me know if I am wrong here.)

 

I agree, being an "investment loan", hence the last line says:

"Being an IP your losing the tax benefit anyway (by whacking it in your offset (being an investment property) so it comes back to the 8.92% still being higher than 7%"

As we both said, the offset leaves more cash in the pocket, purely because of the return.

Cheers,

Dan

 

Ok, I miss read that line, sorry.

 

and the higher return in the offset comes at a greater risk.. should banks lock offset accounts, which they have the right to, then you loose access to all your money! whereas in ING the bank would need to fold.

 

Is that due to the all monies clause, if they dont like the LVR all of a sudden?

 

By the way, the house (with the loan with the offset) will be a ppor in a few years time. We are just going to rent it for now since we dont need the space yet. Once its a ppor I expect the offset versus ing debate will be more strongly in favour of the offset.

 

thats right.. if for some reason the bank doesn't like loans on its books, they can freeze redraw/offset at any time..

So if property prices crashed in australia, the banks could decide to freeze redraw/offset. I was reading the fine price and saw it there somewhere.

I don't think its specific to the all monies clause.. its to do with the bank not extending further credit to you should they deem. redraw is credit extension.

 

"The Banks right to block access to your account (MISA)

If you have given us a 'Letter of Set-Off - Mortgage Interest Saver Account', we reserve the right at any time to block access to your account"

 

Voigtstr, you are right. You always want to avoid paying interest on non-deductable debt.

 

that might be the case, but either way its better to reduce your interest, which is charged to you at higher rate, rather than pay tax on interest earned...

Both affect taxable income the same way.