Purchasing property using an interest only home mortgage is much cheaper because as the borrower it is only the interest that you are paying off and not the capital. However, at the end of your mortgage term you will only have paid off the interest.
This will leave you with the original home-loan amount yet to be repaid; the entire debt would have been settled if a capital mortgage repayment had been taken out instead.
Put simply, an interest only home mortgage doesn’t contain principal. The most common of these loans don’t allow a borrower to make interest-only payments for their entire period, rather this provision is only made good for the initial five or ten years. After this time the loan is amortized, i.e., the payments are increased to an amortized amount but the loan balance remains as it was.
1Definition of an Interest Only Home Mortgage
A mortgage is described as being ‘interest-only’ if the scheduled monthly mortgage payments that the borrower is meant to make just involve interest. The period within which these interest-only payments can be made is specified and is usually between five and ten years. As a borrower you can pay in excess of the interest if you wish to. If you make use of the interest-only option for each month of the interest-only period, your payment won’t feature any repayment of principal. This implies that your loan balance will remain unaltered.
2Who Should Take Advantage of Interest Only Home Loans?
An interest only home mortgage will suit you if you have a viable reason(s) why you prefer the lower payments initially required and if you are adequately prepared to handle the consequences of choosing this option. Some of the reasons that might prompt you to choose an interest only mortgage are as follows:
- Make principal payments when convenient – You can take advantage of this payment structure when your finances are quite restrictive. As soon as you are in a better financial position you can decide to reduce the principal amount by a substantial amount. You need financial discipline to go this way.
- Buy a better house – If you anticipate that your income is going to rise, you may want to move into a better, more expensive house; doing so involves substantial moving and transaction costs. Using the interest only mortgage payments you can move into the new house as the costs involved will now be quite manageable. You however need to be quite certain that your anticipated rise of income will materialize.
- Make cash flow investments – Rather than building wealth by paying your mortgage debt you can instead invest your excess cash flow and manage to generate more wealth. This will only be possible if your return on investment exceeds your mortgage interest rate as this rate will be ...