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Interest-only home loans explained

Interest-only home loans explained

What is an interest-only home loan?

An interest-only home loan is a type of loan that requires the borrower to pay only the interest which accrues on the loan instead of repayments which will meet the accrued interest and repay the principal debt. This payment arrangement is usually only for a set term after which the loan is either due to be repaid in full, or the payments convert to principal and interest for the remaining loan term.

Interest-only payment periods may be agreed for any number of years, however generally sit somewhere between 5 to 15 years. At the end of the interest only period, the principal balance of the loan will not have reduced at all. This means that, depending on the agreed terms of the loan, the borrower will need to start making repayments of principal and interest or repay the full principal and settle the loan, perhaps by the sale of the property.

Who do interest-only home loans suit?

Interest-only loans are generally used by investors who want to minimise the amount paid on their loans and maximise their cash flow for a period of time. This may enable the purchase of multiple properties or other investments with minimal ongoing financial commitments. This way, investors can profit from the capital growth of their investment(s). 

Although a less common strategy, first-home buyers can also use this type of loan to make their first few years of loan payments more affordable after the upfront costs of buying a new home.

They can be a good option in the short term if you’re just intending to sell up after a market cycle or renovating your home and need to live elsewhere for the time being. However, while it is an attractive option for many people, it can be risky as there are some pitfalls.

Here are some benefits and pitfalls to take note of with an interest-only home loan.

Benefits of interest-only loans:

  • Lower payments for a period of time
  • Money saved can be used for paying high-interest credit
  • Money saved can be used for investing in other properties or other purposes

Pitfalls of interest-only loans:

  • Higher repayments after the interest-only period ends
  • May be more expensive than a principal and interest loan in the long-run
  • May not make a gain after you sell

An interest-only home loan isn’t for everyone. So, it’s worth discussing your individual needs and circumstances with an expert. Once you’ve got a loan organised, be sure to protect your ability to make repayments with an ALI Group Loan Protection Plan. We pay you and not your lender, should you involuntarily lose your job, suffer a serious injury or illness, or even died. Find your local authorised mortgage broker or request your quote here today

Loan Protection Plan is jointly issued by Hannover Life Re of Australasia Ltd ABN 37 062 395 484 (Death, Terminal Illness, Living and Accidental Injury Benefits) and QBE Insurance (Australia) Limited ABN 78 003 191 035 AFSL 239545 (Involuntary Unemployment Benefit). It is distributed by Australian Life Insurance Distribution Pty Ltd ABN 31 103 157 811 AFSG 226403 (ALI). ALI receives commission for each policy sold. Any advice provided is of a general nature only and does not take into consideration your personal objectives, financial situation or needs. You should consider the Product Disclosure Statement when deciding if this product is appropriate for you.

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