Four in ten households in the UK are mortgaged on an interest-only basis, according to the Financial Services Authority. Interest only mortgages are popular because the monthly payments are lower than mortgages with monthly capital repayments, meaning homeowners can keep more of their salary each month. Here are the top five considerations for people deciding whether or not to choose an interest only mortgage deal.
What are the benefits of interest-only mortgage deals?
Interest only mortgages leave you with more money to spend or put into savings each month because you do not have to repay capital each month, only the interest accrued on the capital you owe. The interest itself will vary according to whether you have a fixed rate or variable rate mortgage, and, if you have a variable rate mortgage, what the base rate or your bank’s standard variable rate is at the time. On the extreme end of interest only mortgage deals, some people who took out a tracker mortgage a few years ago, set at 0.5 per cent below base rate, found themselves paying absolutely nothing when the base rate hit 0.5 per cent in 2008.
What are the drawbacks of interest-only?
If you choose an interest only mortgage deal, the capital you owe on your property will remain the same until the end of your mortgage term. Meanwhile, people on repayment mortgages will be reducing the capital owed each month and this, in turn, will reduce the interest needed to serve the loan. They will also be cleared of debt by the end of the mortgage term, while interest only mortgage holders will still have the entire loan to pay off.
What’s the best way to pay off the capital on an interest-only mortgage?
Most people on interest only mortgage deals set up a savings scheme such as an ISA in order to amass a lump sum with which they can pay off the capital by the end of the mortgage term. If you enter into a savings scheme or repayment vehicle, making monthly payments into this as well as on your mortgage interest, the cash will be there to pay off the mortgage by the end of the term. Choose a tax efficient repayment vehicle with good growth to make the most of using the interest-only mortgage option.
Should I choose an interest-only mortgage?
If you are uncertain of your future financial situation, or your income varies each month, an interest-only mortgage allows flexibility in how much you put away each month to eventually pay off the capital you owe. Also, if you foresee your disposable income as increasing significantly over time, an interest-only mortgage could be a good way to start with the intention of switching to a repayment mortgage deal when your income increases.
How should I choose my interest-only mortgage?
As with any other type of mortgage, it is sensible to discuss your options with an expert. It’s also very helpful to compare mortgages against one another and calculate your monthly and overall repayments using a mortgage calculator.