Interest Only Mortgages

An interest only mortgage requires the borrower to make monthly payments to their mortgage lender so that the interest on the amount borrowed is covered. It is necessary to setup a separate long term investment plan that will accumulate enough funds to pay off the full loan amount in your planned period of time. But the name itself is misleading. Interest only loans are not a type of mortgage. Instead interest only is attached to any type of mortgage as an option.

With an interest only mortgage there is no repayment term since the mortgage is only paid off on adequate maturity of investment plan provisions. As such the interest-only mortgage continues at whatever rate agreement has been chosen until other funds are available to pay back the borrowed capital sum. When arranging such a mortgage, you will also need to make provisions to accumulate the money needed to repay the capital amount at the end of the agreed term, this is an important aspect and you need to be ensure that the investment will be sufficient for this purpose.

During the term (typically 5-6 years) on which you will only pay back the interest accrued, no equity will be built up on your home. But by having the funds free by avoiding full mortgage repayments you could close the deal on the home you want rather than the home you can afford.

UK Mortgages

The investment plan required to pay off the mortgage usually comes in one of three forms; an Individual Savings Account (ISA), a pension or an endowment. This investment does not have to be provided by the mortgage lender so it is strongly recommended that you find one that can be included. Obviously, do your own research to see if the rate of interest you would be getting on these investment plans is the going rate; otherwise pursue them with another financial institution.

The advantages for initiating an ISA, pension or endowment plan is that these ‘investment vehicles' are tax efficient. Also, if the investment growth rate exceeds those estimated at outset then there is a possibility you may be able to pay off your mortgage early or enjoy a lump sum at the end of the repayment period, in addition to paying off your mortgage.

However, the disadvantages are that you will have no guarantee that you will have accumulated the sufficient funds needed to pay off the mortgage at the end of the repayment period, as the investment could perform below that assumed at the start. Our experts recommended monitoring your investment's performance throughout the duration of the mortgage so that you can make additional contributions if you felt the fund was under performing. There is also the chance that a penalty fee may be incurred with some forms of investment if you stop paying the premiums. And remember, the debt will always remain constant throughout the term of the mortgage period.

Choosing an interest only mortgage can make it so you can afford to stretch that little bit further with the house that you buy, as the monthly payments are less than for a comparable repayment mortgage. Obviously you have to repay the loan in the end, but an interest only mortgage gives you time to get the repayment together, and puts on less pressure initially.