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Table of Contents
- What is the difference between an interest only mortgage and a repayment mortgage?
- Interest only mortgage comparison
- Interest only mortgage pros and cons
- Can you still get interest only mortgages?
- Can I get an interest only mortgage?
- Are there different types of interest only mortgage rate?
- How to get the best interest only mortgage rates
- What happens at the end of an interest only mortgage?
- How to pay off an interest only mortgage
- What can’t be used as an interest only repayment plan?
- What if I can’t pay off my interest only mortgage?
- Can you overpay on an interest only mortgage?
- Do I need advice?
- Interest only mortgage FAQs
With an interest only mortgage, the amount you repay each month only needs to cover the interest that you’re charged. This can keep monthly repayments low, but you’ll need a plan for paying the original mortgage amount back, as this isn’t repaid as you go. So if you take out an interest only mortgage for £100,000, you’ll need a way to pay your lender £100,000 at the end of your mortgage term.
Interest only mortgages aren’t as readily available as capital repayment mortgages, because lenders prefer greater certainty that what they lend will be paid back. However, interest only mortgages could be suitable for some borrowers.
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What is the difference between an interest only mortgage and a repayment mortgage?
A mortgage can be repaid in two ways:
- With a capital repayment mortgage, you pay off both the interest and some of the original amount you borrowed at the same time each month. This means your monthly payments will be higher than on an equivalent interest only mortgage. However, assuming you make all your repayments when you should, everything you owe should be paid off by the time your mortgage term ends.
- With an interest only mortgage, only the interest is payable each month, meaning your monthly repayments are lower, but you’ll still have the original loan to pay back at the end of the mortgage term. And because you’re always paying interest on the full loan amount, you’re likely to end up paying more overall with an interest only mortgage. With a repayment mortgage, the amount of interest you pay will gradually decrease as you pay off the original loan.
Some lenders also offer part and part mortgages, where some of the mortgage is arranged on a repayment basis, and the rest is on an interest only basis. The idea is that borrowers can start making some progress towards paying off the original loan amount.
» MORE: Should I get an interest only or repayment mortgage?
Interest only mortgage comparison
The table below shows how monthly repayments and the interest you pay can differ depending on whether you opt for an interest only mortgage or a repayment mortgage. The figures are for a £200,000 mortgage which is repaid over a 25-year term at an interest rate of 5%.
| Interest only mortgage | Capital repayment mortgage | |
|---|---|---|
| Monthly repayment | £833.33 | £1,169.18 |
| Total interest paid over full term | £250,000 | £150,754 |
| Total repaid over full term (interest plus original loan) | £450,000 (includes £200,000 lump sum payable at the end of the mortgage term) | £350,754 (no lump sum payable as original mortgage amount has been cleared over the term) |
Interest only mortgage pros and cons
There are some upsides to taking out an interest only mortgage, but there are some important drawbacks to consider too.
Advantages of interest only mortgages
The main advantages of interest only mortgages include:
- monthly repayments will be lower than a repayment mortgage, because you’re only paying off the interest on the mortgage each month.
- the option to use the money you save on home improvements or for other purposes.
- lower repayments mean you may be able to borrow more and afford a more expensive property.
- landlords can profit from rental income by keeping mortgage overheads down using buy-to-let mortgages.
Disadvantages of interest only mortgages
Some of the potential disadvantages of interest only mortgages include:
- it’s likely you’ll end up paying more in interest overall than with a repayment mortgage, as interest is always charged on the full original loan amount.
- you will still owe the full mortgage amount at the end of your term
- you must have a repayment strategy, such as an investment, savings or another property, for paying your mortgage amount back, which you may need to pay into and should monitor.
- there is a risk your repayment strategy comes up short leaving you to find another way to repay the balance, or perhaps needing to sell your home.
- you’ll usually need a larger deposit and possibly a higher income to qualify.
- there are relatively few interest only mortgages available compared to repayment mortgages.
» MORE: How much house can I afford?
Can you still get interest only mortgages?
It is possible to get an interest only mortgage to buy a residential property, but they are not as widely available as they once were. However, if you’re a landlord wanting to borrow to buy a rental property, you’ll find many of the buy-to-let mortgages are offered on an interest only basis.
» MORE: Best mortgage lenders
Can I get an interest only mortgage?
Eligibility criteria for interest only mortgages tend to be stricter than for repayment mortgages, although qualifying requirements will differ between lenders. To give yourself a better chance of getting an interest only mortgage, you’re likely to need:
- a deposit of at least 25%, and perhaps even higher.
- a good annual income – some major lenders want to see over £75,000 a year.
- a reliable plan for repaying your mortgage at the end of the mortgage term.
- a standard construction property – lenders don’t tend to like the risks associated with allowing interest only mortgages for non-standard construction properties.
It all means it is likely to prove more difficult to get an interest only mortgage if you are a first-time buyer. In fact, some lenders specify that they won’t offer interest only mortgages to first-time buyers.
If you’re an older borrower who perhaps needs a way to pay off your existing mortgage or release equity in your home, some lenders offer retirement interest only mortgages, often known as RIO mortgages. However, these come with advantages and disadvantages.
Are there different types of interest only mortgage rate?
Interest only mortgage rates can be either fixed or variable. With a fixed-rate mortgage, you have the security of knowing that your interest rate, and monthly repayments, will stay the same throughout the initial period for which you’ve fixed. With a variable rate mortgage, such as a tracker mortgage, the interest rate you pay and your repayments, could rise or fall. Once any introductory rate period ends, you’ll usually move onto your lender’s standard variable rate (SVR) unless you decide to remortgage to a new deal.
» MORE: How are fixed and variable rate mortgages different?
How to get the best interest only mortgage rates
Having a large deposit and a good credit score is usually key to getting the best interest only mortgage rates. However, the mortgage that best suits your needs overall may not always be the one with the lowest rate.
Always make sure you shop around and compare interest only mortgage rates and lenders. Mortgage brokers, such as our partner London & Country Mortgages Ltd (L&C), may have access to mortgage deals and rates that you can’t get directly. L&C can also offer you fee-free advice.
» MORE: See current mortgage rates
What happens at the end of an interest only mortgage?
You will need to pay off your original loan amount when your interest only mortgage term ends. This is because you don’t pay it back when making the standard repayments during the mortgage term.
Mortgage lenders will want to know what your repayment strategy is when you apply for an interest only mortgage.
How to pay off an interest only mortgage
There are several ways you could pay off the capital of an interest only mortgage, and you’ll need to have a plan in place when you apply. What qualifies as an acceptable repayment strategy can differ between lenders, but may include:
- investments in bonds, shares and unit trusts
- a regular savings plan, such as an endowment policy
- funds in stocks and shares ISAs
- savings in a savings account or cash ISA
- a pension from which you could potentially take a 25% tax-free lump sum
- separate property or assets you could sell.
A lender has discretion as to whether they feel you have an adequate repayment plan in place and are willing to offer you a mortgage. You can also expect a lender to check whether your strategy remains on course to pay off your loan at some point during the mortgage term.
What can’t be used as an interest only repayment plan?
Some potential repayment options that tend not to prove acceptable include the expectation of an inheritance, bonus from work or another windfall. Solely relying on property values rising so you can downsize and release equity also isn’t typically seen as a viable repayment strategy for a residential interest-only mortgage. If it is, a lender will usually want there to be a certain minimum amount of equity in the property. However, planning to sell your property is more likely to be deemed acceptable if you’re taking out a buy-to-let mortgage.
What if I can’t pay off my interest only mortgage?
If you have an interest only mortgage and are concerned that you won’t be able to repay your loan, you should talk to your lender or seek mortgage advice straight away.
Some of the options you might have include:
- extending your mortgage term so you have extra time to find the funds you need.
- remortgaging to another interest only deal to give you more time and the chance of finding a better deal.
- switching over to a repayment mortgage so that you’ll start to make progress in repaying your loan, however your repayments will go up.
- moving to a part and part mortgage, where your loan is split between interest only and repayment, and can make some headway into paying off your original mortgage amount.
- selling the property on which you have the mortgage in the hope of raising enough to cover what you owe.
Selling up is often considered an option of last resort, but if the value of your home has increased, you may still have funds left over once your mortgage is settled to help find a new place to live. However, if house prices have dropped, and your property is now worth less than your mortgage, you’re in negative equity and selling won’t raise enough to repay what you owe.
While most lenders will want to find a suitable way forward your home might be at risk of being repossessed if a solution can’t be found.
» MORE: See the latest UK house prices
Can you overpay on an interest only mortgage?
Overpaying an interest only mortgage means you will start repaying some of your original loan amount, leaving you less to pay back at the end of the mortgage term. It may be possible to overpay a mortgage by up to 10% of your outstanding balance each year, or sometimes more, without incurring early repayment charges. However, you should always check the terms and conditions of your mortgage first to make sure such charges are avoided.
Do I need advice?
If you’re comfortable with what an interest only mortgage entails, there’s nothing to stop you from directly approaching a lender yourself.
That said, interest only mortgages aren’t always straightforward, particularly in relation to repayment plans, so using a mortgage adviser may be sensible. Some lenders will only allow you to take out an interest only mortgage if you apply through a mortgage broker.
If you think you need mortgage advice, we’ve partnered with online mortgage broker London & Country Mortgages Ltd (L&C) who can offer you fee-free advice.
Interest only mortgage FAQs
An Interest only mortgage may be worth considering if you want lower monthly repayments, and are confident you’ll be able to pay off your mortgage loan in the future. The main risk is that your repayment strategy doesn’t work out as intended, and you face a shortfall when it comes to paying back your original loan.
You’ll likely need a bigger deposit with an interest only mortgage than a repayment mortgage, although requirements can differ between lenders.
Some interest only mortgage lenders work to a maximum loan to value (LTV) of 75%, meaning you’ll need a 25% deposit, but there may be lenders who require more.
It is less likely but may be possible to get an interest only mortgage if you have bad credit, but you may need to use a mortgage broker to find a willing lender.
Interest only mortgages can be paid off early but always check with your lender first in case there are early repayment charges for doing so, especially if you are within a fixed rate deal period.
First-time buyers may be able to get an interest only mortgage, but higher deposit and income requirements will often be an obstacle. Some lenders also explicitly state they won’t offer interest only mortgages to first-time buyers.
Many buy-to-let mortgages are interest only, although you can get buy-to-let mortgages on a repayment basis too.
If you can prove the higher repayments will be affordable, it should be possible to switch from an interest only mortgage to a repayment mortgage. You might be able to do a product transfer with your current lender, or you may want to remortgage and switch to a new lender if they are offering a better deal.
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