Interest only mortgage loans
Interest only mortgage loans are a popular way to repay a mortgage, especially among borrowers who are on low incomes or are servicing a high amount of debt on other loans. As their name suggests, interest only mortgage loans allow borrowers to repay only the interest owing each month for the term of their mortgage loan. They must then put in place an investment product that will build up a lump sum to pay off the capital owing on their mortgage loans, which will become due for repayment at the end of the loan term.
The big advantage that interest only mortgage loans have over standard capital & interest repayment mortgage loans is that the monthly repayments are substantially reduced. As an example, let's look at a £90,000 mortgage spread across a term of 25 years at an average interest rate of 6.75%. On standard capital & repayment mortgage loans a borrower would be paying back £629.15 per month, covering the interest accrued and a small proportion of the mortgage capital. On interest only mortgage loans however, borrowers would only need to pay back £506.25 per month to cover interest - a saving of nearly £1500 per year.
Lender stipulations on interest only mortgage loans
To protect both the lender's interests and the borrower's interests, interest only mortgage lenders will normally lay down some rules for borrowers to adhere to when taking out interest only loans. After all, if the borrower does not keep up the interest repayments or fails to be able to pay off the capital at the end of the mortgage term then they could have their home repossessed.
First of all, mortgage lenders will want to be sure that the borrower is adequately aware of the risks involved in taking out an interest only mortgage loan. If they are unconvinced that the borrower is prepared to take the risk then they will either decline to offer an interest only mortgage loan, or they will arrange loans where a proportion of the mortgage is interest only and the remainder is on a capital & interest repayment basis.
Additionally, mortgage lenders will want to be sure that borrowers have an investment vehicle for paying off the capital. This could be endowment loans, ISA loans, pension mortgages or other types of assets / investments that can be used to pay off the capital. Some mortgage lenders will want to see evidence of the asset / investment to be used before accepting an interest only mortgage application. If borrowers are planning to sell their homes to pay off the capital owing on interest only loans then mortgage lenders will want to see a minimum equity sum in their existing properties as they stand.