Time to read : 5 Minutes
Paying less sounds like a good idea, doesn't it?
But, before you take the leap, let's find out if an interest only loan measures up for your situation.
What you need to know
Interest only loans are just that – a loan where you pay only the interest on your mortgage.
The repayments will cheaper – let's compare a 25-year 600K mortgage at NAB on a Choice Package. The monthly repayments for the principal and interest (at 5.42%) loan is $3655.91, the repayment for interest only (is higher, at $5.99%) on the same loan (for five years) is $2995. Meaning you would be paying $660.91 less a month.
The interest rate is likely to be higher – this is because these loans are considered riskier by banks. The Australian Prudential Regulation Authority (APRA) says, "this is because, on average, investors tend to borrow at higher levels of leverage and may have other existing debts."
Repayments will increase – once you have finished your interest-only period. Moneysmart warns that the new payments of interest and principal, "may not be affordable" for you. This is because you are still required to pay off your mortgage in the loan period.
Be aware: You will not pay off any equity of your home when you pay interest only and if the market drops you could be at risk.
Who do they suit?
Typically, according to Moneysmart these types of loans suit people who need a shorter-term loan, like a bridging or construction loan.
Others, like property investors could reap benefits too – because they can buy a property and wait for the market to climb before selling. Interest only loans can also have tax benefits. The ATO says you can "claim interest that you have pre-paid up to 12 months in advance" on rental properties.
They could also be a good option if you want flexibility – NAB says that an interest only loan might suit you if you "need to take time off to be a carer." It could also help if you lose your job and need to reduce your outgoings temporarily.
If you want to maximise your cash flow – interest only can work too, allowing you to have more money for a period of your loan, and freeing up more funds for you to spend on your life (and school fees).
Bottom line
Interest only loans typically have higher interest rates, with (initially) lower repayments. They can be riskier so it is worthwhile to consult your broker to make the best choice for you.
And remember – you will have to pay the principal one day.
