What Is An Interest Only Mortage, And Should I Get One

What Is An Interest Only Mortgage, And Should I Get One?

There is a non-traditional type of home mortgage loan being marketed to consumers known as an interest only home mortgage loan. Sometimes called a balloon mortgage, an interest only mortgage is exactly what the name implies. For the term of the mortgage, the borrower is paying only the interest that is due on the home mortgage loan and is not paying anything back towards the original loan amount.

At the end of the mortgage term, the balance due on the loan will be equal to the full amount that was originally borrowed. This balance will be due, in full, when the mortgage loan term ends.

Why an Interest Only Mortgage Loan Sounds Attractive

Obviously, we would all like our monthly mortgage payments to be as low as possible. With an interest only home mortgage loan, the borrower is keeping his monthly payments to a minimal by paying only the interest that was accrued on the loan in the last thirty days since his last payment. Therefore, this type of mortgage is often marketed to the consumer as a tool which allows the borrower to “buy more of a home” than they would be able to afford with a traditional home mortgage loan.

To illustrate this let’s take a look at the purchase of a $150,000 home. Buying this home with a traditional 30 year fixed rate mortgage with a seven percent interest rate would give you monthly mortgage payments of approximately $1,000. On the other hand, if the consumer chooses an interest only 30 year fixed rate mortgage at the same seven percent interest rate, monthly mortgage payments would only be $695. This type of mortgage would be attractive to the consumer who can afford $700 each month, but can not afford $1,000.

For the most part; however, financial advisors will tell you it is best not to choose this type of loan except in rare circumstances. It is generally accepted that an interest only home mortgage loan is an alright choice if you don’t intend to hold the loan for more than a year or two and you are being offered a great interest rate.

Why An Interest Only Mortgage Is Not A Good Idea

In general, it’s best not to choose an interest only option for your home mortgage loan. Why? The largest problem with this type of financing is that the home owner is not building any equity into his home with an interest only mortgage. The home will still be considered “fully financed” even after the mortgage term comes to an end.

There are also other reasons that an interest only mortgage is not usually your best choice.
If you buy the home during a high market and the value of the house drops or remains the same during the term of the mortgage, it is possible that even after selling the home, you will still have money unpaid from your interest only mortgage.

Furthermore, if the homeowner does not wish to sell the home at the end of the mortgage term, then he will have to have another plan in place for paying off the balance of the mortgage due.

As you can see, there are times when this type of loan would be wise—such as in investment properties—but if you are buying a home and planning on living in it for some time, it’s probably not the loan for you!

 
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