> Interest Only Mortgage - UK Guide
In a nutshell
A mortgage where your regular payments only go to pay off the interest on the money you borrow. You will invest to pay off the capital sum at the end of the mortgage term.
Best Mortgage For
Cash rich individuals, people that know they'll be able to make their capital investment payment at the end of their mortgage or people looking for buy to let mortgages. Any consumer can take out this type of product but there is always the risk that your investments won't build up enough funds to meet your needs.
You can find all types of mortgage deal for interest only mortgages including fixed, variable, capped, discounted and tracker types. Your deal will generally last for a specific period (usually between 1-5 years, although some deals do last longer and some can last for your mortgage life) at which point you will default to your lender's standard variable rate or to a tracker product. At this stage you can also negotiate a new deal if your lender allows. Your lender mortgage will always be interest only and you will be expected to make provision (usually through an investment vehicle such as an ISA, pension or endowment) to pay off the capital you owe when your mortgage is done. You do not have to arrange your investment vehicle through your lender.
Typical Amount to borrow
Lenders' standard terms will apply here in general. So, you will be given 3-4 times a single income or 2.5-3 times joint income in most cases. However, some lenders will increase their income allowances. It is also possible to take up 100+% mortgages on an interest only basis.
No deposit is necessary for a 100% mortgage. Most lenders will expect a deposit of at least 5% in all other cases.
The primary advantage to an interest only mortgage is initially seen in the payments you make to your lender. The fact that you will only be repaying your interest here means that your monthly payments will be much lower than they would be for a repayment product.
And, as it's your responsibility to organise how you will repay the capital sum when the mortgage is finished, you can hold off doing this for a while. In certain cases this can work quite well - it'll give you some extra money to play with. You may, for example, be starting a family and would like a couple of years with as much cash coming in as possible. You could also see very good returns on the investment element of the mortgage - if you're lucky and the stock market does well. If this happens you'll potentially be able to pay off your capital sum when you need to and still have some extra cash.
What to look out for
There has been a lot of adverse reporting about endowment interest only mortgages in recent years which have highlighted the major drawback to this product as a whole. If your investment does not give you good enough returns, you won't have enough money to repay the capital owed. So, it's vital to take good and qualified advice before buying an interest only product and then to track your investment progress on a regular basis. If it doesn't do too well you may have to make extra payments into the fund or look to build up lump sum cash elsewhere. Some people have even been forced to sell their homes to find the money. You also need to consider the fact that the rates you get for an interest only mortgage may not be as favourable as those on offer for repayment mortgages. So, if rates rise you may find yourself paying a lot more than you originally budgeted for.