With the rise in interest rates making mortgage repayments more unaffordable since December 2021, borrowers are looking for ways to reduce their monthly payments. There are a couple of options for those who want to manage their mortgage payments. Let’s look at what you can do if you are in this situation.
Interest-only mortgages are mortgages where the borrower pays back only the interest portion of the mortgage during the mortgage term.
What is an interest-only mortgage on a residential house?
An interest-only residential mortgage (IO) is taken on a property you intend to live in, which is an interest-only deal.
How do interest-only residential mortgages work?
Your lender will offer you a mortgage where you are only required to pay back the capital at the end of the mortgage. This means that during the mortgage term, you are only making repayments on the interest portion of the loan, hence the name interest-only mortgages.
Most residential borrowers take a capital repayment mortgage where the payment also covers the principal loan so that they have paid off the entire amount by the end of the term.
How long can you have an interest-only mortgage?
Interest-only mortgages generally have similar terms to a standard repayment mortgage. The most common term is 25 years, although with the challenges of saving a deposit, longer terms are not uncommon now.
What repayment strategy can I use to pay back my interest-only mortgage?
During the term, you won’t be reducing your outstanding balance, so lenders will need to make sure you have a repayment plan in place.
There are a few ways to repay your interest-only mortgage:
- Save up a lump sum over the term of the mortgage using a savings vehicle such as a cash ISA
- Use investments in stocks and shares to pay off the lump sum
- Take the money from pension savings (consult a pensions advisor for financial advice if you are considering this option)
- Sell other assets such as another property, artworks or jewellery to raise a lump sum
- Sell the property and downsize using the remaining equity in the property
If you are over 55, you could borrow money using a retirement interest-only mortgage (RIO). With this type of loan, there is no requirement to pay back the capital until you die or move into long-term care when your home will be sold to pay back the full amount of the outstanding loan.
Another option is an equity release mortgage, which could be used to repay an existing IO mortgage. An equity release product, such as a lifetime mortgage, is paid back when you die or move into long-term care, but unlike an RIO, you don’t have to make a single monthly repayment if you choose not to.
Is it worth getting an interest-only mortgage?
An interest-only product can be a good option if you are looking to borrow more but keep monthly repayments more affordable than a traditional repayment one where you also pay back capital.
What are the advantages of interest-only mortgages?
The main advantage of an interest-only mortgage is the monthly payment is much lower than for traditional repayment mortgages.
What are the disadvantages of interest-only mortgages?
The main disadvantage of an interest-only mortgage is that you aren’t paying off the loan against your property, which means that at the end of the mortgage term, you still won’t own your own home; your lender will own it.
In addition, the eligibility criteria for being approved for an interest-only mortgage for a residential property are strict. Most lenders will require a big deposit, and you may need a significant annual income, too. Some lenders will only lend to high-net-worth individuals.
How do you apply for an interest-only mortgage?
You can apply for an interest-only product the same way as any other product. Check with your existing lender if you have one to see if they have a deal you can switch to.
Otherwise, it’s a good idea to find a knowledgeable mortgage broker like Simmonds Mortgage Services who can identify the lenders who offer interest-only deals and help you make your mortgage application to the lender most likely to accept.
How can Simmonds Mortgage Services help me?
Simmonds Mortgage Services has access to the whole of the market. Our experienced mortgage brokers will review your situation thoroughly and advise on the best deal for your circumstances. Call us on 01184 693037 for help today.
Frequently asked questions about interest-only mortgages
Can you get an interest-only mortgage for buy-to-let property?
An interest-only mortgage is much more common on buy-to-let properties as the expectation is that the property will be sold to pay off the mortgage at the end of the term.
What happens at the end of the term for an interest-only mortgage?
At the end of the term, you will still owe the original amount of the mortgage because you won’t have paid back any of the capital that you borrowed. This means you’ll need to have an alternative strategy for repaying the mortgage, such as selling the property.
Does interest-only mortgage affect credit rating?
As long as you make your monthly payments on time, having an interest-only mortgage is unlikely to adversely affect your credit rating per se. However, interest-only mortgages are higher risk in general so if you’ve only ever borrowed on an interest-only basis, this could affect your ability to get affordable deals from lenders in the future.
Can a first-time buyer find an interest-only deal?
Although it is possible to get an IO mortgage for your first mortgage, it is much harder than a standard repayment product so you will need to approach a specialist lender and the lending criteria are likely to be more difficult to meet.
How much deposit do you need for an interest-only product?
As the risk is higher for the lender, you’ll usually need a 50 to 25% deposit, meaning the loan-to-value is lower at 75%. You may be able to have part on capital and repayment and part on interest only mortgage.