What is Interest only Mortgage

Interest-only mortgage is a form of mortgage in which the borrower is expected to pay back only the accruing interest and not the principal mortgage amount. The interest only option can last for a few years, though the loan seekers can pay more than just the interest. A mortgage is a loan taken for the purchase of property and the property in question is treated as collateral. Nearly all home and commercial property owners opt for mortgages due to the convenience they offer and the ease of repayment over many years. Mortgages are of different types and selected on the basis of individual requirements.

Interest-only mortgages appeal for various reasons, the foremost being that it is a cheaper mortgage option for buying property. At the end of the mortgage term, only the interest payments cease, the principal still has to be paid, whereas in repayment mortgage the entire principal and interest payment is cleared.

Interest only mortgages have been popular for long but they seem to be beneficial only as long as the property prices appreciate. A decline in prices makes the property owner lose out since his debt is higher than the value of his property. If there is no source of raising funds for repaying the principal, such a scenario can prove to be damaging financially. This channel for purchasing property is common with first time home buyers who can afford only smaller monthly installments of interest, and can switch to a repayment mortgage to pay off the principal.

Interest-only mortgages prove cheaper than renting property for living, since rent is money down the drain and with this type of mortgage the residence does become your own. However, a method of repayment of the principal amount also has to be found to reduce the burden.

Individuals who opt for interest-only mortgage

  • Limited resources and pay principal when convenient- Interest-only is sought by people with fewer resources and find it easier to pay only the interest on a monthly basis and look for ways to raise funds to pay off the principal.
  • Buying a second house- many investors start out with a small house and then buy a bigger, better house. This is obviously done through mortgages, and interest-only mortgage helps to keep the monthly installments low. At a later stage they may opt to sell off one of the houses to raise funds to pay off the principal of the other.
  • A wealth building technique- Many people use the interest only mortgage as a wealth building technique. It is easy to pay off only the interest on the mortgage while waiting for property prices to escalate, and selling it off at a higher price. In this way the principal also gets paid off and the profits help to add to wealth.
  • People who get annual compensation more than their monthly salary- Many people get annual bonuses in large amounts while their monthly salaries remain small. Such people can opt for the interest-only mortgage since the monthly installment will be small and the annual bonus can be used to pay off the principal.

Interest-only mortgages must be taken cautiously and make sense for those who expect future earnings to be far higher than current ones.

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