Interest only mortgage

An interest only mortgage often seems like a good option to first-time buyers struggling to get a foot on the property ladder. Such a mortgage allows you to pay only the cost of interest charges on your loan. First-time buyers often opt for an interest only mortgage because they don't have enough money for capital repayment, but fear that if they don't buy a property immediately they will lose an opportunity to buy a home before prices rise out of their reach.

Switching to an interest only mortgage

Perhaps you already have a mortgage where you're paying off the capital as well as the interest, but you're considering switching to an interest only mortgage to save money. The first question to ask is whether or not it is possible for you to do this. Read the small print of the mortgage deal with your current lender; how long are you committed to your repayment mortgage? Whether or not you will be able to switch to an interest-only deal depends on the lender and on the agreement you have signed. You can't go back in time and un-sign an inflexible arrangement, but checking over the paperwork will at least help you to assess your situation.

Taking out an interest only mortgage - flexible loan rates

Some lenders give you the interest-only option from the start as part of a more flexible home mortgage. For example, some mortgages allow you to change the amount you pay from month to month. You might pay the minimum interest payment for a few months while you're finding your financial feet, and then arrange to cover both interest and capital later on. You can switch back to interest only payments if money is tight. Be sure to read the small print before signing up to any mortgage though, look carefully at the interest rate offered with the loan and use an interest only mortgage calculator to check what amount you will actually have to pay back.

Advantages of switching to an interest only mortgage

There are two main factors that cause difficulty in mortgage repayments: reduction of income and increase of expenditure elsewhere. Either of these factors alone could make it hard for you to make your repayments, but sometimes they both happen together. Having a new baby is one of the most common examples of this. You need to spend money on clothes, food, prams and countless other things, but you also want to cut down on the hours you work in order to spend more time with the baby. Your income is reduced along with your working hours, and the baby's needs push up your expenditure.

If you're having difficulty making your regular mortgage repayments, you should consider switching to an interest only mortgage if the option is open to you. It will save you cash in the short term. If, for example, you need a few months' breathing space to find a new job after being made redundant, an interest only mortgage can tide you over until you get work.

Some people take out an interest only mortgage even though they can afford the capital repayments. They do this in order to put funds in other investment vehicles, such as an IRA (individual retirement account), a high-interest savings account or an endowment policy.

Disadvantages of switching to an interest only mortgage

Switching to an interest only mortgage probably won't save you money in the long term, and it delays the date of finally paying off your mortgage. With a repayment mortgage, you have the satisfaction of knowing that your total debt is reducing with each payment, whereas there is no such satisfaction with an interest-only deal.

A common pitfall of interest-only plans is to feel richer because of the extra money you have saved. This causes some people to overstretch themselves financially by, for example, buying a new car. It's easy to forget that your whole reason for switching mortgage plans was to save money. Then you may have problems keeping up the repayments if, for example, interest rates rise.

An interest only mortgage: to switch or not to switch?

Many people switch to an interest only mortgage out of necessity - because it has become too difficult to keep up capital repayments. In this situation, switching to an interest only mortgage is usually a better option than losing the property.

However, other people switch to interest only plans in order to make money by investing the cash they would otherwise have spent on capital repayments. This strategy can be profitable, but it is risky. If your investment vehicle underperforms, you may have difficulty paying the capital repayments at the end of the interest only period.

The crucial thing to remember about interest only mortgages is that they're not a permanent option. They're for a fixed period of time, and at the end of that period you will have to pay back the capital. When you switch to an interest only mortgage you need to make arrangements for what will happen at the end of the interest only period, and keep watching the calendar so that it doesn't take you by surprise. Planning ahead is the best way of avoiding all the pitfalls of interest only mortgages.

 

 

 

 

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