How interest only home loans work

Last updated on November 25th, 2021
  Written by 
Bill Tsouvalas
Bill Tsouvalas is the managing director and a key company spokesperson at Savvy. As a personal finance expert, he often shares his insights on a range of topics, being featured on leading news outlets including News Corp publications such as the Daily Telegraph and Herald Sun, Fairfax Media publications such as the Australian Financial Review, the Seven Network and more. Bill has over 15 years of experience working in the finance industry and founded Savvy in 2010 with a vision to provide affordable and accessible finance options to all Australians. He has built Savvy from a small asset finance brokerage into a financial comparison website which now attracts close to 2 million Aussies per year and was included in the BRW’s Fast 100 in 2015 as one of the fastest-growing companies in the country. He’s passionate about helping Australians make financially savvy decisions and reviews content across the brand to ensure its accuracy. You can follow Bill on LinkedIn.
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Interest only home loans are becoming more and more popular in Australia with everyday borrowers.

Higher house prices and the rise in living costs force people to look for relief wherever possible, and putting your home loan on interest only is one of them. In general, this might be a good idea, but it’s not the best choice for those who take a mortgage too big for their bank balance or who are doing this just to pay bills.

What is an interest only home loan?

As you already figured out, with this type of loan, you pay just the interest on the loan. This means cheaper monthly repayment however you are not paying down any principle. 

In the past, this type of loan was used especially by investment property buyers mainly for the purpose of reducing the holding cost of a property until it was time to sell, usually with the aim to make a profit. Today an interest only option is usually offered to anyone with a home loan. 

Before making up your mind and running to the bank, let's see the advantages and disadvantages of this option 

Advantages of interest only home loans

The main advantage, which has convinced many into choosing this kind of loan, is that it helps you free money for other things. Interest only loans have many benefits especially in the short-term. For the financially savvy ones, this credit gives them the option to take the extra money from the reduced mortgage payments and invest it into something that has a high return.

interest only is also a good option when you want to renovate or build your home. For example, if you plan on renting while you are building your house, you can arrange an interest only loan for one year. This way, it will be easier to meet the home loan and rental obligations.

Interest only could also work for you if you have a job in sales or agriculture, where income might fluctuate from month to month. Although an interest only option helps access money in the short term, it should not be used as an effective emergency measure for paying bills or buying groceries. If that's the case, you need to seriously look at your budget and make some changes quickly. 

Disadvantages of interest only home loans

Interest only does come with some inconveniences. The biggest drawback is that you are not paying any money off your house, and you are not building equity either. This means that you are unable to borrow against it if the value of the property does not increase substantially. 

Compared to standard fixed rate loans, interest rates tend to be a little higher.

Do not go for this type of loan if you are looking for a long-term option. Interest only operates on a maximum of five years, so using it for a 25-year mortgage will be out of the question.

Before opting for this option, make sure you understand all that it implies. Talk to a specialist, ask all the questions you have and see if this type of loan is the best for you.

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This guide provides general information and does not consider your individual needs, finances or objectives. We do not make any recommendation or suggestion about which product is best for you based on your specific situation and we do not compare all companies in the market, or all products offered by all companies. It’s always important to consider whether professional financial, legal or taxation advice is appropriate for you before choosing or purchasing a financial product.

The content on our website is produced by experts in the field of finance and reviewed as part of our editorial guidelines. We endeavour to keep all information across our site updated with accurate information.

Approval for home loans is always subject to our lender’s terms, conditions and qualification criteria. Lenders will undertake a credit check in line with responsible lending obligations to help determine whether you’re in a position to take on the loan you’re applying for.

The interest rate, comparison rate, fees and monthly repayments will depend on factors specific to your profile, such as your financial situation, as well as others, such as the loan’s size and your chosen repayment term. Costs such as broker fees, redraw fees or early repayment fees, and cost savings such as fee waivers, aren’t included in the comparison rate but may influence the cost of the loan. Different terms, fees or other loan amounts may result in a different comparison rate.

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