Thinking about an interest-only mortgage to get your foot on the property ladder or remortgage? They can seem cheaper initially but come with big risks!
What is an interest-only mortgage?
Unlike a traditional repayment mortgage, where you gradually chip away at the amount you borrowed, an interest-only mortgage ONLY covers the interest charged on the loan each month.
Sounds good? Well, here’s the catch: At the end of your mortgage term (usually 25 years), you STILL owe the ENTIRE original loan amount! This lump sum is called the capital.
Why do people choose interest-only mortgages?
- Lower monthly payments: This is the main attraction, especially when money is tight or interest rates are high.
- Flexibility: You might have a plan to repay the loan later, like an inheritance or selling other assets.
But be warned, lenders are strict! You’ll need a solid “repayment vehicle” – proof you can repay the capital. This could be:
- Investments (stocks, shares)
- Savings (ISAs)
- Life insurance policy
Interest-only mortgages and landlords:
Landlords often use interest-only for buy-to-let properties. Their plan? Rent covers the interest, then they sell the property later to clear the loan.
The Pros and Cons:
Pros:
- Affordability: Can get you on the property ladder or help with remortgaging when repayments are high.
- Future Planning: Suits those expecting a lump sum later to clear the debt.
- Potential for profit: If house prices rise, selling could cover the loan AND make you money.
Cons:
- Huge debt remains: Your mortgage balance doesn’t decrease. You could owe the same amount in 25 years!
- Higher overall interest: You pay interest for longer compared to a repayment mortgage.
- Investment risks: Your repayment plan relies on investments performing well, which isn’t guaranteed.
- Fewer options: Not all lenders offer interest-only mortgages.
Interest-Only vs. Repayment Mortgages:
| Feature | Interest-Only | Repayment |
| Monthly Payments | Lower | Higher |
| Loan Reduction | None | Gradual decrease |
| End of Term | Full loan amount due | Loan paid off |
| Overall Interest Paid | Higher | Lower |
Don’t get caught out! Interest-only mortgages are COMPLEX. Seek advice from a financial expert to see if they’re right for YOUR circumstances.