Credello: What You Should Know About Interest Only Mortgages

Interest only mortgages might sound like an amazing option but can end up costing you much more than they are worth. These loans offer low monthly payments at the beginning, as borrowers are only paying interest - nothing towards the principal. If you have work that you need to do around the house as soon as possible, you can look into personal loans for home improvement. These loans allow you to make your purchases now and pay them off over time. 

An overview

Interest only mortgages allow borrowers to pay only interest for a set period of time on the mortgage, typically the first five to 10 years of the loan. The main benefit is that these payments can be much lower than a traditional house payment because borrowers are only paying interest, nothing on the principal. After this period of time, borrowers then start paying both on the principal and interest until the loan is fully repaid. 

The downside is that once borrowers start paying on the principal, payments can be up to three times higher than the original interest only payment. Not only that, but these types of loans will typically have higher interest rates, meaning that borrowers are paying more interest over the lifetime of the loan. The monthly payment when the principal is added in is subject to the current mortgage rate, which can be higher than when borrowers first took out the loan. This makes the monthly payment higher than anticipated. 

Interest only loans come with a lot of risk that borrowers need to understand and accept prior to agreeing to one. If your home loses value during this time, it can be difficult to pay off the entirety of the loan when you go to sell. Although you save money upfront on your monthly house payment, you end up paying more long term. If you are someone that would comfortably be able to make the full payment after the interest only period is over, even if mortgage rates have gone up, then you could consider this loan to free up money in the beginning for home repairs. 

An alternative to interest only mortgages would be an adjustable rate mortgage, which has a locked-in interest rate for a set period of time, anywhere from five to ten years, and then gets reset monthly or annually. This type of loan lets you start paying on the principal immediately, but comes with the same risk that interest rates might rise in the future. 

The bottom line

Interest-only mortgages might sound too good to be true at first, and that is likely because they are. Although they offer low monthly payments in the beginning, they create a lot of uncertainty around future payments. They also make the borrower pay more in interest over time compared to a traditional loan. Compare all of your options and put the numbers down on paper before agreeing to any type of mortgage. 

Source: Credello

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Categories: Personal and Family Finances

Tags: Debt, Financial Services, Personal Finance


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