When it comes to buying a property, you need to find two very important things. The first is, of course, the property. The second is your mortgage. There are multiple different kinds of residential mortgages out there that you can choose from.
Ultimately, the right mortgage for you is the one that will help you buy the property you have your eye on and the one that you can easily afford both on a month-by-month basis and over the full period of the loan.
The good news is that you aren’t stuck to one mortgage, either.
You can have a long loan period of 25 or 30 years, yes, but the specific mortgage deals you are on last a much shorter period. You can choose a fixed-term loan for five years, for example, and then remortgage to another loan.
You can also switch to what’s known as an interest-only mortgage.
What is an interest-only mortgage, how does an interest-only mortgage work, and how to get interest-only mortgage loans for yourself? This guide covers everything you need to know:
Interest-Only Mortgages: An Introduction
What is an interest-only mortgage? Simply put, it’s a mortgage type where you only pay the interest rate monthly, not the principal. This means that you aren’t actually paying off your loan at all, just the interest on top of the loan amount.
There are several reasons to get an interest-only mortgage, even if you aren’t paying off the principal of your loan. These include:
- You are in a tough financial period and need to free up funds to cover expenses or a large payment.
- You want to reduce your monthly repayments to cover another loan. For example, if you took out a loan to remodel your property. Once the interest-only period is over, you might be able to remortgage to a lower interest rate if you’ve significantly decreased the LTV.
- You want to invest more money into another account or method.
The one thing you need to remember when it comes to interest-only mortgages is that you will need to repay the principal at one point or another. This can be when you sell the property (for example, if you are a house flipper or if you take out a lifetime mortgage) or after your interest-only period ends.
How Does an Interest-Only Mortgage Work?
An interest-only mortgage works by holding off on principal payments. This means that instead of paying off a part of the loan you initially took out, you only pay the interest. This means you have to pay more overall than if you are stuck with a standard fixed-rate mortgage.
Interest-only mortgage eligibility criteria
The exact eligibility criteria change from lender to lender. You can usually get a very short period of interest-only relief through your existing lender. If you want to go into a house purchase with an interest-only mortgage, however, you’ll often need to meet these criteria:
- High deposit (or equity): If you have a high deposit or have already paid off a significant portion of your home, you’ll be more likely to get an interest-only loan either by remortgaging or mortgaging with this option. High deposits of 20 to 40% are essential.
- Proven repayment strategy: If you want to buy a property or take out a longer interest-only loan, it can help if you have a strong repayment strategy. House flippers, for example, may have the goal of fixing up a property with a lot of potential to sell within a year or two. You can use the selling price of neighbouring properties to show evidence that the project should make a profit.
- Good credit history: It’s very useful to have an excellent credit score and history.
- High income: You’ll only be able to get an interest-only mortgage from the outset if you can afford the full repayment plan in the first place. For example, say you have a year left of a loan that you are repaying, which is why you want to take out an interest-only repayment plan in the first place. Once that year is up, your income should be able to cover the full repayment mortgage easily.
How to Get an Interest-Only Mortgage
If you do think that an interest-only mortgage is right for you, then you might be asking yourself, “How do I get an interest-only mortgage?”. The good news is that there are a few ways you can get this type of mortgage.
- Talk to your lender: You might be able to simply switch to an interest-only mortgage for a short period of time, for example, six months. This option is backed by the government’s Mortgage Charter scheme, which is designed to help provide homeowners with relief.
- Remortgage: Another way you can get an interest-only mortgage is if you remortgage. These interest-only mortgages last longer, though once the period ends, you’ll once again need to pay off the principal.
How Much is an Interest-Only Mortgage?
An interest-only mortgage costs less than a repayment mortgage upfront but more in the long run. This is because the interest-only period is usually tacked on to your repayment plan. If you only pay interest for six months, then you’ll need to make six months more full repayments later on.
A way you can avoid this is to make chunks of repayments at the end of each fixed-term period. This is when you’re on the standard variable rate, and you’re free to make large mortgage deposits.
On top of the overall cost of your loan, you’ll also need to factor in the standard list of remortgage costs. If you simply switch to an interest-only loan with your existing lender, there will be fewer fees since you’re just moving mortgage products, not remortgaging.
