What is an interest only mortgage?
An interest only mortgage is one where the monthly repayments are only inclusive of the interest payments whilst the capital is deferred until the end of the mortgage term. You will need to make arrangements on how you repay the capital at the end of the mortgage term. Interest only mortgages are very risky as if interest rates rise or house prices fall the debt on the property will be more than the property is worth which will make it hard for any remortgages. You should always seek professional advice before taking on an interest only mortgage.
What is a repayment mortgage?
A repayment or capital mortgage is where you repay the capital plus interest over the term of the mortgage in monthly repayments.
Your monthly repayments include both capital and interest. As you repay your capital, the interest you pay on your mortgage decreases. Initially most of your monthly repayments will go towards the interest on the mortgage but in time this settles off and becomes a similar percentage of each.With a repayment mortgage you repay the mortgage in full by the end of the term and as you are slowly repaying the capital every month you begin to own more equity in the property and can remortgage to a better deal in a few years as you will have a better LTV than when you originally got the mortgage. In a scenario house prices have risen(your property price), you will even have a better LTV and hence better rates for you.
**What are the key differences between the interest-only mortgage vs the repayment mortgage?
For interest-only mortgages your monthly payments will only include interest payments and no capital
For repayment mortgages your monthly payment will include interest payments and capital payments.
What happens at the end of the term?
For interest-only mortgages at the end of the term you will have to pay the capital in one lump sum.
For repayment mortgages at the end of the mortgage term you will own the property in full.
What is the monthly interest calculated based on?
For interest-only mortgages the interest is calculated on the capital which does not change throughout the term of the loan
For repayment mortgages the interest is calculated on the capital which is constantly reducing as the monthly payments are being made which include capital payments.
Are there any risks?
For interest-only mortgages at the end of the mortgage term you will have to repay the capital in one large sum. If interest rates increase then your monthly payments will increase and may become unaffordable.If the property price falls then you will be in negative equity and this means you will not be able to remortgage.Your home may be repossessed if you do not keep up on your monthly repayments.
For repayment mortgages your home may be repossessed if you do not keep up on your monthly repayments.