What is a Redraw Facility?
A redraw facility allows you to make extra repayments on your home loan, while allowing you to access those funds in an emergency and save interest when you make the lump sum payment.
How it works
When an account has a redraw facility, the limit is tracked separately from the balance. The limit will always reduce in line with the minimum repayment over the agreed loan term. When you increase your regular repayments or make lump sum payments towards your loan, the balance decreases at a faster rate than that limit. The difference between the balance and the limit can be redrawn if needed.
The redraw allow you to save interest costs by reducing the loan balance but still redraw back to the loan’s limit if you need funds. The reduced interest cost is generally a much better return than the interest you would have earned in a savings account.
Example
Scenario
Assume you have a loan where the limit and balance is $100,000. This means that the interest expense is calculated on the $100,000 balance at 6.99% p.a.
You’ve just received a $40,000 bonus and you want to make a lump sum payment.No Redraw Facility
Without the redraw facility, you would’ve had to keep the $40,000 bonus in a Savings Account or Term Deposit. You’ll earn interest income over the period until your $100,000 loan comes up for renewal and that’s when you make the lump sum payment. In the meantime, you’ll also still be charged interest on the $100,000 loan balance until you make the lump sum payment.With a Redraw Facility
When you make the $40,000 lump sum payment to the $100,000 Redraw Facility, this will:
- Reduce the loan balance from $100,000 to $60,000. Interest expense will be charged on $60,000 balance.
- The loan limit remains at $100,000. Your loan repayment is calculated based on the limit, which means you pay down more of your principal.
- You will have $40,000 available to redraw again for future use (if required). Let’s say you want to redraw $10,000 to purchase a new car. The bank will then transfer $10,000 from your redraw facility and a new $10,000 loan is set up. The limit and balance of the new loan is $10,000. And the Redraw Facility limit reduces from $100,000 to $90,000.
Benefits of a Redraw facility
- Reduces your interest expense by reducing the loan balance.
- Pay your loan off faster – every dollar above your minimum repayments will directly reduce the principal and can cut years off your loan.
- Retain access to the funds up to the account limit – no bank assessment required to your money back out.
- There are tax advantages of using a redraw facility as any interest saved in a savings account or term deposit will be subject to income tax, taxed at your marginal tax rate. Whereas, the money in a redraw facility will not be subject to income tax. For example; Amy received $30,000 in bonus, and decided to put this money into a term deposit. She was able to earn interest 4% on this amount
Which bank offers a Redraw Facility?
Currently, Westpac provides a true Redraw Facility without any fees, withdrawal restrictions or requirement to complete a loan application.
Have a chat with one of our friendly Twine advisers to help you determine if the Redraw facility is right for you.
