Interest Only Mortgage

The amount you borrowed never decreases.

An interest only mortgage enables the borrower to make payments that are used only to pay off the interest on your mortgage. It is often seen as a cheaper way of taking out a mortgage.

For example a £150,000 home loan at 5 % over 25 years would cost £625 per month interest-only, and £877 per month capital repayment. However, at the end of the mortgage term, the interest only mortgage loan would have only paid off the interest, leaving the £150,000 debt still unpaid, whereas the repayment mortgage would have cleared the whole debt. The borrower on an interest only mortgage, would therefore need to take out an alternative payment method, as the repayments made on an interest only mortgage do not repay any of the outstanding balance.

Because of this, interest only mortgages are generally coupled with an investment vehicle such as an ISA, an Endowment, or Pension Plan.

An Endowment plan provides fixed payments which are based on the total amount of the loan as well as the mortgage term and, in effect should mean that at maturity, the amount invested and the earnings, will be significant enough to pay off the mortgage. However this is not always the way, and customers cashing in their endowment policy after the first few years can receive less than the amount invested.

An ISA (tax free method saving) is growing as a repayment vehicle for those taking out interest free mortgages. However due to it’s complexity should only be used by those with sound financial knowledge or from borrowers taking advice of a financial advisor.

A pension plan is also sometimes used, coupled along with an interest only mortgage, with life assurance cover and monthly payments made into a pension fund. This plan should also really be used by those financially sophisticated or from those taking advice from a financial advisor.

Generally speaking, an interest only mortgage generally works only for those living in some areas such as London and the South-East where an interest only mortgage can often be cheaper than renting. Whilst not paying off the capital, it could possibly be a good investment, and a first step onto the property ladder. Starting with an interest only mortgage, and then switching to a repayment mortgage as soon as possible, could make it work for you - should house prices go up.

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