Imagine you have a giant fishbowl that is about a third full of jellybeans. Your goal is to get the bowl filled to the top with jellybeans. Every time you get paid, you get paid in jellybeans and you put some of these jellybeans into the bowl. Your weekly goal is to put 20 jellybeans in, but sometimes you have some sweets to spare and you add extra to help you get to your goal of a full fishbowl more quickly.
You love how the bright colours shine through the glass and you feel proud of how many juicy jellybeans you’ve collected. Each week your collection builds, but every now and then you get a bit of a taste for something sweet and you take a few for yourself as a treat. Each time you eat a jellybean you have to eventually replace it (in addition to putting in your usual weekly quota), but bit by bit your sweet stack grows....
Now let’s apply this analogy to a mortgage or a personal loan, consider the jellybeans as your repayments. Building up your collection of colourful sweets is equivalent to paying off your debts. And occasionally indulging in a little chewy treat is akin to using a redraw facility. A redraw facility basically allows you to make additional contributions to your mortgage or personal loan (or jellybean collection) and access these extra funds (or treats) when necessary.
So what are the advantages of a redraw facility when taking out a loan?
- Firstly it helps to encourage borrowers to make extra repayments and in turn allowing them to save on interest costs in the long run.
- A redraw facility provides flexible access to funds when needed without having to use a credit card or being subject to its higher interest rates. Building up your savings is a very valid goal. However, if you have debt, it makes sense to try to pay this off as a priority, ahead of building up your savings.
- You will get taxed on the interest you earn in a savings account. But you won’t be taxed on the interest you save on your home loan. Plus interest earned on a savings account can often be less than the interest charged on a loan.
With the exception of really basic ‘no frills’ loans products and some fixed loans, many mortgage and personal loans offer a redraw facility.
There are a few things to consider when deciding on a loan with a redraw option:
- Does it cost you to activate the redraw facility on your account or is it offered automatically?
- How much are you charged per redraw? Some institutions offer a certain number of free redraws per year?
- How many redraws are you entitled to per year? You may have access to unlimited redraws or may have to limit the number of times you access the facility.
- Is there a minimum or maximum redraw amount?
- Do you have to have a certain reserve available before having access to the redraw facility? For example, do you have to have at least 10% in extra contributions before you are able to redraw from the account or do you have at least one payment in advance? (This will vary from institution to institution).
Generally, a redraw facility works best for borrowers who need to redraw against extra repayments infrequently.
Your redraw facility may not be the most appropriate product to reach for if you will need regular access to funds. Just because you have access to money through a redraw facility doesn’t mean you should take advantage of it. Consider it as your ‘just in case’ fund, rather than a regular stream of funds. Remember every dollar taken out of your loan repayment will have to be repaid. Plus you pay interest on the outstanding balance so the more you owe, the more interest you pay.
There are immediate benefits if you can manage to stay ahead of any loan repayments, but in the case of a redraw facility it can really come in handy for unexpected expenses. As always it comes down to your individual situation, so be sure to investigate the best option for your own personal circumstances.
Redraws are often part and parcel of a variable rate home loan. Curious to know the pros and cons of variable vs fixed loans? Check out this previous article. If you would like to apply for a home loan with a redraw facility or want to find out more about the best mortgage options for you, Australian Mutual Bank has a range of flexible loans as well as a dedicated team of loans specialists who can guide you in the right direction.
Alison Gallagher is a freelance writer, resourcefulness expert and entrepreneur. She has been featured in various publications including Stellar Magazine, Australian Health and Fitness Magazine, and Cleo Magazine. Alison is particularly passionate about sharing practical tips on how to live simply, sustainably and seasonally.
