What are interest-only repayments?

Opting for interest-only home loan repayments can be a useful strategy in some circumstances, but it’s important to understand how they work and whether they may be right for you.

When you take out a home loan, it’s essentially made up of two parts – the principal and the interest. The principal is the amount borrowed, and the interest is what the lender charges you to borrow that amount.

When you make principal and interest repayments, you’re not only covering the monthly interest charges but also chipping away at the principal amount. This gradually gets you closer to paying off your loan in full.

Interest-only repayments, on the other hand, are when you only pay the monthly interest charges on your loan and leave your principal amount untouched. This repayment option doesn’t get you any closer to paying off your loan.

Lenders tend to offer interest-only repayments for a fixed amount of time only, such as five years for an owner-occupied loan or 10 years for an investment loan.

The key benefit of interest-only repayments is that cutting out the principal portion will make them more affordable. It’s important to be aware, however, that you’ll likely pay more in total interest charges over the life of your loan.

Who might benefit from interest-only repayments?

While most mortgage holders’ priority is to pay down their home loan consistently over the duration of the loan term, there are some for whom interest-only repayments may be helpful.

Property investors

Many investors choose an investment home loan with the option to make interest-only repayments. One of the reasons is because it can help maximise cash flow to be used for other purposes, while still seeing the advantages of capital growth.

There are also tax benefits for investors who choose to make interest-only repayments, such as the ability to claim the total interest charged on the loan as a tax deduction – which would mean the total repayments.

Owner occupiers who wish to renovate

Some owner-occupier mortgagees choose to make interest-only repayments if they are renovating or rebuilding their home, and need the extra cash to cover the costs of such a project.

Mortgage holders who find themselves in a pinch

There can be certain times in a home loan borrower’s life when having the option to reduce repayments for a period of time can relieve financial pressure. Some of these instances might include:

• Experiencing a job loss/redundancy
• Taking time off work to care for a new baby
• Being hit with unexpected costs associated with separation or divorce
• The need to cover medical bills or reduced income due to illness or injury
• Having to cover the cost of urgent repairs on your home or investment property

Interest-only repayments could offer flexibility and allow mortgage holders to avoid falling into financial strain at these times. They can then resume principal and interest repayments once it is feasible, and if possible, potentially look to make extra repayments over time to make up for the missed principal payments.

To search and compare interest-only mortgage products, visit RateCity’s interest-only home loans hub.

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