What is an interest-only home loan?

Interest-only home loans are a type of mortgage where the borrower only has to pay the interest charged on the principal balance. Because they are only required to pay interest, the monthly repayments are lower. This leaves borrowers with more money available in their monthly household budgets for use elsewhere.

However, mortgage lenders will only allow you to make interest-only repayments for a limited time. Different lenders have different maximum interest-only term lengths, but they are often between five and ten years. Once your pre-set interest-only term ends, the loan will revert to principal and interest repayments. This could significantly increase the cost of your mortgage repayments, and potentially land you in mortgage stress if you’re not careful.

Also, during the interest-only period, your repayments are only covering the cost of interest charges, and aren’t helping to pay back the principal amount owing on your mortgage. This means it will take longer to pay off your property, meaning you’ll likely be charged more interest over the long term than you would by sticking to principal and interest repayments. 

Interest-only repayments may also be an option for a split home loan. While many split loans divide your loan into fixed-rate and variable-rate portions, some lenders will allow you to make principal and interest repayments on one portion of a loan, and interest-only repayments on the other portion. This could help to lower your total mortgage repayments slightly, while also allowing you to reduce your loan principal and build up some equity in your property.

Is an interest-only loan the best choice for me?

The best home loan for you will depend on your financial situation and personal goals. Interest-only repayments may be useful to some borrowers, but may not be suitable for every home loan.

Some owner-occupiers choose to start their home loan with interest-only repayments, so they can better keep their household budget under control during the early stages of their loan term. Others choose to switch to interest-only repayments during times of personal difficulty or financial hardship (e.g. injury or illness, pregnancy, job loss etc.) to minimise the cost of their mortgage payments during this challenging time.

Interest-only home loans are often popular with people purchasing investment properties. By helping to minimise the cost of mortgage repayments, an interest-only loan may help to maximise potential returns on the investment. Additionally, interest charges on an investment mortgage are often tax deductible. And while an interest-only period can cost more over the long term, some investors don’t plan to pay their loans off in full, but instead refinance the loan or sell the property when the interest-only period runs out.

If you’re unsure whether an interest-only home loan may be the best choice for you, consider contacting a mortgage broker for more personal financial advice.

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