Interest-Only Mortgage Overview
Interest-only mortgages are not really a type of mortgage. The ability to make only interest payments on a mortgage is actually an option that is available on other mortgages such as adjustable rate mortgages (ARMs) or fixed rate mortgages (FRMs). While the interest-only option may be available on both ARMs and FRMs, it is far more common on adjustable rate mortgages.
The interest-only option period on most mortgages ranges from three to ten years. During that time period the borrower is obligated to pay only the interest due on their loan. No principal payments have to be made during the interest-only period. This means that during the interest-only period, the principal amount due on the loan will remain the same.
Borrowers, may, if they choose, make principal payments during the interest-only period. If they do so, the principal amount of the loan will decrease by the amount of the principal payment. For some interest-only loans, this will result in a lower interest-only payment for the next monthly payment. Others may only recalculate interest-only payments on some predetermined anniversary date.
At the end of the interest-only period the loan payment will be adjusted to include both interest and principal payments. The principal payment will be calculated to fully amortize (pay off) the loan over the remaining term of the loan (for example, if the interest-only period is 10 years on a 30 year loan, then the principal payment will be calculated to fully pay off the loan over the remaining 20 years). This will typically result in a large increase in the borrower's monthly payment.
Advantages of Interest-Only Mortgages
Interest-only mortgages are not for everyone.There are, however, certain circumstances where a borrower may want to consider an interest-only mortgage option. These include:
Disadvantages of an Interest-Only Mortgage
There are also significant disadvantages to interest-only mortgages, including: