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Interest-only mortgages

With an interest-only mortgage, you only pay the interest each month, not the actual mortgage debt. This means your monthly payments can be much lower compared to a repayment mortgage of the same amount. You must have a plan to pay back the full mortgage amount by the end of your repayment term. This is sometimes referred to as a “repayment vehicle”.

Examples of repayment vehicles can include endowment policies, pensions, ISAs or the sale of the property itself. Lenders have varying policies for accepting repayment methods for interest-only mortgages. These policies depend on the plans and investments that lenders are willing to consider. Some lenders may not accept cash in a savings account as a repayment method for an interest-only mortgage.

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Author: Carl Shave - CEO and co-founder
Last updated: 19 Apr 2024

Interest-only mortgage advice

We can often get better interest-only mortgage rates from specialist lenders than if you went to them directly. Please contact our team for more information about interest-only mortgages. We can help you find the perfect mortgage that suits your needs.

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An introduction to Interest-Only Mortgages

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Who might be suited to an Interest-Only Mortgage?

Interest-only mortgage repayment is suitable for various types of borrowers. This includes first-time buyers, home movers, buy-to-let investors, and those looking to remortgage.

Whilst interest-only does not suit everyone a couple of examples of where it could help are as follows:

Buying a property with an interest-only mortgage may be cheaper than renting a property. Some home buyers feel that, while you may not be paying off the actual loan you do own your own home.

Many buy-to-let investors choose interest-only mortgages to keep their monthly mortgage payments low. They can also make additional payments towards the loan if needed. Interest-only can help if investors are looking for capital growth rather than longer-term income.

The benefits of interest-only mortgages can also apply to:

  • self-employed
  • contractors
  • freelancers
  • and others who may have an irregular monthly income.

What is a Part-And-Part Mortgage?

As the name perhaps suggests, a “part-and-part” mortgage is part repayment and part interest-only. With this type of mortgage, you would have a repayment vehicle that only covers part of the total mortgage debt. For example, let us say you take out a £100,000 mortgage, but only have a repayment vehicle covering £75,000. £75,000 of the mortgage is interest-only, and the other £25,000 is repayment.

Your monthly mortgage payment consists of two parts. One part is the interest on the total mortgage amount. The other part is a portion that goes towards repaying the £25,000 over the agreed term.

After the mortgage term ends, your remaining mortgage balance of £100,000 will decrease to £75,000. This amount will be paid off using the right repayment method.

Part-and-part mortgages offer a middle ground between a full repayment mortgage and a full interest-only mortgage. Monthly payments are lower than on a repayment mortgage. You pay less interest because part of the mortgage balance is being repaid.

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Interest Only Mortgage lenders

Interest only mortgages have been popular for a long time. However, the market in interest-only mortgages reduced after the decline of endowment policies. The expected growth in many endowment policies did not meet the sum owed on the mortgage. Ultimately, leaving a large number of homeowners in financial difficulty.

Borrowers increasingly opting for the safer repayment mortgage. Lenders also perceived interest-only mortgages as a far greater risk.

However, interest-only mortgages are still available through a number of lenders in the market. Although, access to their products will be subject to certain minimum standards and criteria.

  • You can demonstrate a suitable repayment vehicle as acceptable by the lender
  • Have the minimum income required by some lenders
  • Have the minimum sized deposit or minimum level of equity
  • and meet any other criteria required by the lender,

Interest-only mortgage advice

If you are looking to take out an interest-only mortgage, then it is important to seek professional advice on your plan. Even if you are supremely confident that this is the right option for you.

An interest-only arrangement can seem very attractive in the immediate circumstances. With its cheaper monthly payments, it can be an effective way to keep your ongoing costs down. All while maintaining a growing asset or storing up an investment for the future.

However, you have to be absolutely certain that you will be able to repay the loan when it comes to term. Lenders will require you to have an acceptable ‘repayment vehicle’ in place before they can accept your application.

This could be:

  • a pension,
  • endowment policy,
  • ISA,
  • or other investment fund that accrues interest,

Or, perhaps you will simply plan to sell the property, assuming that it will have held its value throughout the duration of the loan. This entails an element of risk, as many historic holders of interest-only mortgages with insufficient endowment.

Get in touch today to arrange a free, no-obligation initial discussion, and we’ll give you a clear picture of all your options going forward.

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Differences between interest-only and repayment mortgages

A repayment mortgage is different. It includes monthly payments for loan interest and repayment of the borrowed amount over an agreed term. Repayment mortgages are sometimes referred to as “capital and interest” mortgages, to differentiate them from interest-only mortgages.

Interest-only mortgages have lower monthly payments compared to repayment mortgages. This is because the payment only covers the interest and not the mortgage capital. However, since the balance isn’t decreasing, the total interest paid on the mortgage is higher compared to a repayment mortgage.

There are multiple mortgage options available. However, we will specifically concentrate on interest rates of 3%, 4%, and 5%. This will help us illustrate the contrast between an interest-only mortgage and a repayment mortgage. We used a £300,000 purchase price with a 40% deposit and borrowed £180,000 for a 25-year mortgage.

The calculations assume a fixed interest rate. They do not include other factors like home insurance, redundancy insurance, or repayment vehicle payments.

Interest-Only Repayment
3%
Amount Borrowed £180,000 £180,000
Monthly Repayment £600 £950
Total repayable over 25 years £360,000 £285,032
Interest Paid £180,000 £105,032
4%
Amount Borrowed £180,000 £180,000
Monthly Repayment £750 £1,052
Total repayable over 25 years £405,000 £315,679
Interest Paid £225,000 £135,679
5%
Amount Borrowed £180,000 £180,000
Monthly Repayment £900 £1,160
Total repayable over 25 years £450,000 £347,923
Interest Paid £270,000 £167,923

This should not be considered as mortgage advice. The figures may differ depending on different factors. Always seek advice from a mortgage specialist for an accurate comparison.

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Interest-only mortgage FAQs

If you have an interest-only mortgage, you might need a savings plan. This plan could be an ISA or an Endowment policy. The purpose of this plan would be to help you pay back the loan.

For some however, the repayment strategy is to be the sale of the mortgaged property at the end of the term. Depending on how the value of your property has changed over the years, you may be able to repay the mortgage and also use any equity to then purchase a property at a lesser value.

If you are thinking about taking out a new interest-only mortgage, then many lenders in the current market would not consider the future sale of the property as a suitable repayment plan. These lenders would still need to be satisfied that you have an alternative means of repaying the loan other than the property itself.

However, some lenders are agreeable to the mortgaged property being used as the repayment vehicle. This will be subject to the loan to value and other elements of your circumstances meeting their criteria.

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As your monthly mortgage payment on an interest-only mortgage just covers the interest accruing and does not reduce the mortgage balance, at the end of the term you will still owe the same amount that you initially borrowed subject to you not having made any other capital reductions during this time.

The total mortgage balance needs to be repaid in full at the end of the agreed mortgage term, typically from the proceeds of a repayment vehicle such as an ISA, endowment policy or other investment plan. If you do not have a separate suitable repayment vehicle in place, then the loan may have to be repaid from the sale of your home.

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Yes. Current mortgage rules mean that lenders need to know both that you can afford to meet your monthly mortgage payments, and that you have a repayment vehicle in place. The repayment plan should be sufficient to repay the total mortgage balance at the end of the agreed mortgage term. The lender will seek to verify this when you apply for a new interest-only mortgage and may also follow up during the mortgage term to ensure that your repayment vehicle is still on track to repay the debt.

In the past, lenders did not always have to verify that a repayment vehicle was in place when lending on an interest-only basis. If you have an existing interest-only mortgage and no designated repayment vehicle, or your repayment vehicle isn’t on track to cover the total mortgage balance at the end of the term, then you should contact your lender or a mortgage broker as soon as possible to discuss your options.

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Some, but not all, lenders allow customers to switch their mortgage from a repayment to an interest-only basis. Those that do allow a switch from repayment to interest-only will need to verify that you have an acceptable repayment strategy in place to repay the mortgage at the end of the agreed term.

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Yes, most lenders allow customers to switch their mortgage from an interest-only to a repayment basis within the term of the mortgage. It may also be possible to switch to a so-called “part-and-part” basis, where part of the mortgage remains on interest-only, and part operates on a repayment basis. This can be useful in cases where the borrower has a repayment vehicle in place, but it is likely to pay out less than the projected amount at maturity.

Why not try our interest-only mortgage calculator to get an idea of whether or not you could be eligible.

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