Term Deposit vs. Offset Account. Why Locking Cash Away Might Be a Huge Mistake

Term Deposit vs. Offset Account.

You have worked hard and saved up a lump sum of $50,000. Now you want that money to work for you.

You see a bank offering a 5.0% Term Deposit rate. It looks tempting. At the same time, your home loan interest rate is sitting at 6.5%.

Many Australians instinctively think, "I'll put the money in the Term Deposit to earn interest."

If you have a standard variable home loan for your house, this is almost always a mathematical error. Because of how the Australian tax system works, putting that money in your Mortgage Offset Account is far superior to any savings account. Here is the proof.

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1. The Tax Problem: Interest is "Income"

The biggest reason Term Deposits lose is Tax.

When you earn interest from a bank, the ATO classifies it as taxable income. You must pay your marginal tax rate on every dollar of interest earned.

• Interest Earned: $2,500 (5% on $50k)
• Tax (Assuming 39% bracket): -$975
• Real Profit: $1,525

Your advertised "5.0%" return is actually a 3.05% return after tax. Inflation often eats the rest.

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2. The Offset Solution: Saving is Tax-Free

An Offset Account is a transaction account linked to your home loan. The money in there isn't "earning" interest; it is canceling out the debt interest you owe on your mortgage.

Every dollar in your Offset Account behaves as if you have paid off that much of your mortgage debt.

• Interest Saved: $3,250 (6.5% on $50k)
• Tax on Savings: $0 (You don't pay tax on money you save, only on money you earn).
• Real Benefit: $3,250

The Verdict: By using the Offset Account, you are effectively earning a guaranteed, tax-free return of 6.5%.

To match this return in a taxable Term Deposit, you would need to find a bank offering an interest rate of nearly 10.6% (Grossed-up return). Such a rate does not exist in the safe market today.

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3. Liquidity: The "Lock-In" Trap

There is another massive advantage to the Offset Account: Access.

🔓 Flexible vs. Frozen

Term Deposit: Your money is locked away for 12 months. If you have an emergency (car breakdown, medical bill) and need to withdraw early, you lose all your interest and face "break cost" penalties.

Offset Account: It is just a bank account. You can withdraw your $50,000 tomorrow at an ATM if you need it. While it sits there, it saves you money daily. When you spend it, it stops saving.

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4. Important Warning: Fixed Rates & Investments

Before you transfer your cash, check your loan type.

• Fixed Rate Loans: Most fixed-rate loans do not allow offset accounts (or they have strict limits). Check your policy first to avoid penalties.
• Investment Loans: If the loan is for a rental property, the interest is tax-deductible. While an offset still saves you interest, it also reduces your tax deduction. For your own home (PPOR), however, the offset is the clear winner.

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The Banker's Secret

Unless you have a specific reason (like keeping money separate for business), the rule of thumb for home owners with variable loans is simple:

Cash is King, but Debt is the Enemy. Keep your cash in your Offset Account. It acts like a high-yield, tax-free savings account that is fully accessible whenever you need it.

Disclaimer: This article is for educational purposes only and does not constitute financial advice. Interest rates and tax brackets are used for illustrative purposes only and are subject to change. Individual circumstances, such as fixed-rate breakage costs or investment loan tax implications, vary. Please consult with a qualified Financial Adviser or Mortgage Broker.