Should we give interest-only loans a second look?

Ginger Dean

October 16, 2013

By: Ginger Dean, Home Finance Specialist

In: Finance and Legal

Have you heard about "interest-only loans"? In case you're wondering if this is a trick question, let me assure you that it isn't. Banks actually still offer this product. They lend you money to buy a home and you don't have to repay the principal loan amount - at least for a certain period of time. With an interest-only loan for your home, you are only required to repay the interest.

Interest-only loans: a forgotten, but beneficial, product

Interest-only loans are offered by most banks for varying terms, typically under 10 years. During this period of time the bank will lend you a lump sum of money to buy your home and you, as the borrower, are only required to repay the monthly interest charges. The principal (original) amount of the loan that was borrowed does not have to be repaid right away.

At the end of this term, the borrower has several options as to how they wish to repay the principal amount (yes, it does eventually have to be repaid). Borrowers can choose to repay the original amount in full or they can convert the owed balance to blended principal and interest payments for the remaining amount of the amortization. If you choose the latter, you will have principal and interest payments to make each month at the end of the interest-only term.

When an interest-only loan is to your advantage

Banks make their money from interest charges, so if you are only repaying the interest and not the principal amount of the loan, the bank is still making money.

Interest-only loans are to your advantage if you are purchasing a home with the intention to resell it very quickly. If you are flipping homes and paying for renovations, the expenses can add up quickly. An interest-only loan gives you some breathing room until you put the home back on the market. When the house sells, you will be able to repay the full amount of the principal loan and still (hopefully) have a profit in your pocket.

Interest-only loans are also to your advantage if you expect to have an income increase in the next few years. That way, you can make lower payments right now with your lower income and higher payments later on with your higher income.

Do some careful research into this type of loan before you sign anything - as with any loan, it's important you know what you're getting yourself into. But you may just find that this loan is exactly what you were looking for.


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