An interest-only mortgage is a type of repayment method for mortgages. Instead of repaying the loan through monthly repayments like a capital and interest mortgage, with an interest-only mortgage you only pay the interest due on the loan each month.

This means that at the end of the term you still need to repay the original loan amount back to the lender.

For example, if you borrow £200,000 over 25 years, because you are only servicing the interest you will need to pay £200,000 at the end of the 25-year term.

What is a repayment strategy?

There are different ways you can repay your interest-only mortgage at the end of the term, these are called repayment strategies and the lender is required to ensure that you have a credible repayment strategy when you take out an interest-only loan.

The most common repayment strategies are to either:

  • Sell your property and pay off the mortgage in full and downsize, in order to use this strategy you generally need to have a minimum amount of equity in the property either at the start of the loan or at the end of the term, all lenders have different criteria on what their minimum requirements are. Some base it on your location and property you will downsize to in order to ensure that it is feasible.
  • Sale of other property such as buy to lets or commercial property. Most lenders will allow you to use your property portfolio as a strategy to repay an interest only residential mortgage.
  • Cash or other savings vehicles and investments can be used as a repaymemt strategy. If the required funds are not avaliable at application then the contribution required to meet the loan ammount at the end of the term would need to be factored into the affordability assesment.
  • Pension drawdown. Pension can be used as a repayment vehicle however lenders will generally only take into account 25% of your projected retirement pot.

Expected inheritance is generally not considered a suitable repayment strategy.

It should be said that the criteria for interest-only buy to let mortgages is different as these mortgages are unregulated which means that the criteria are more flexible. Most landlords will take a buy-to-let mortgage on an interest-only basis in order to make a profit on the rental income.

What are the advantages of Interest Only Mortgages?

The main advantage of an interest-only mortgage is that it has reduced monthly repayments giving flexibility to investing the available disposable income you would be required to pay back on a capital and interest mortgage elsewhere. They can have lower affordability requirements as the monthly repayments are lower which can be useful for older borrowers who are not ready to downsize and have sufficient equity or available assets.

What are the Disadvantages?

You will pay more interest over the long term with an interest-only mortgage as the debt is never reducing. You need to ensure that any repayment strategy remains in place otherwise there could be serious financial consequences when you get to the end of the term.

How do I qualify for an interest only mortgage?

The main qualification for an interest-only mortgage is that you have a credible repayment strategy in place, this means the lender can be confident that you will repay the loan at the end of the term.

Other factors such as your credit score, income, and outgoings are also taken into account when assessing your eligibility for an interest-only loan some typical requirements lenders need are;

  • Minimum joint Income usually of at least £75,000 (although some lenders have no minimum income)
  • Minimum equity if using the sale of the property as repayment strategy which is usually around £150,000
  • Affordability to repay the mortgage any associated savings plan if using this as the repayment strategy.
  • Most lenders will apply a maximum loan to value (the proportion of borrowing against the value of the property) of between 50%-75%, any borrowing above these levels would have to be on capital repayment on a part and part repayment method.

Momentum Mortgages are mortgage brokers based in Sevenoaks, Kent. We help people to buy, invest or remortgage property while reducing stress and saving time. We have helped clients all over Kent including Tunbridge Wells, Tonbridge, Maidstone, Swanley, Dartford, Bromley, Orpington and more.

Interest-Only mortgages
Interest-Only mortgages
Interest-Only mortgages