An offset account is simply a savings account which is linked to a loan account. Instead of earning interest in the savings account and thus having to pay tax on the interest earned, it reduces the amount of interest you have to pay on the loan.
Example of a 100% offset account: Loan Amount $100,000, Offset Balance $20,000; you pay interest on the loan based on an effective $80,000 loan balance.
Example of a 50% offset account: Loan Account $100,000, Offset Balance $20,000; you pay interest on the loan based on an effective $90,000 loan balance.
The benefit of an offset account is that you can put all your income into it and use it to pay all your expenses. The more the funds in the offset account build up the less interest you will pay on your loan.
You are much better off having the offset account linked to the larger loan because once your funds in the offset increase over $50,000 you will not receive any further benefit if it is linked to the smaller loan. So by offsetting the larger loan you will end up saving the most money.
Also, something extra to think about, if you are paying interest only your loan balance will not change over the interest only period and your interest payments will get smaller and smaller as your offset account grows. On the other hand, if you are paying principal and interest then your loan balance will reduce much faster as your offset account increases. This is because with principal and interest you have a minimum amount to pay each month (made up of a portion of principal and a portion of interest). As the offset account grows you will be paying less interest, so a larger portion of the principal is paid off each month.