Calculating Mortgage Offset Account Savings

I recently had a conversation with my sister about how mortgage offset accounts work and how much you can save by using them, and it got me thinking about the mathematics involved.  It's easy enough to use proof by induction to work out the equations needed for calculating repayments on standard mortgages, but would the equations be radically different when an offset account is involved?  It turns out that for most of the repayment period the formulas used for a standard mortgage are valid, you just need to use an adjusted repayment rate.

There are three main advantages to using an offset account

1. You can take your money out when needed.
2. Using an offset account is equivalent to putting the same amount money in an interest bearing account at the interest rate of the loan, which is typically higher than any deposit rate you'd get.
3. When you put money in an interest bearing account you pay tax on the money earned, not in an offset account.  It's effectively a tax free investment.

Let's say for example you had $50,000 burning a hole in your pocket, by putting it in an 100% offset account attached to to a standard variable home loan at Heritage Building Society, where they're currently offering 6.54%, you'd receive a benefit of $272.50 a month.  If you were to put that same amount of money into a term deposit for a year you would currently get a rate of 4.75%, which would earn you $197.91 a month.  Let's also assume that you're in the 34% Australian tax bracket, you'd only be left with $130.62 a month, which is less than half the benefit of putting the money into an offset account.  This is just one specific case, but it's representative of what you'll find at most banks.

NOTE I'm only considering 100% offset accounts and how they work in Australia.  This is just a general discussion of the topic and is not meant to constitute financial advice.   Before putting money into any investment talk to different banks and do as much research as possible, that way when the time comes you can make a carefully considered, well informed decision.  Also, don't forget that spreadsheets are your friend.