9 January 2012
The benefit of an Interest only loan is that you only reimburse the interest on the loan for a fixed time generally 5 years sometimes 10.Some banks will also allow you to renew this fixed term for an another 5 years.
This option reduces the amount of your repayments for a set period, but not the balance of the principal you borrowed.
Interest-only loans aren't meant to be a long term solution. Borrowers who get them expect to either sell their homes or refinance before the interest-only period ends hoping that the house value will be higher and that they will make a “profit”.
Therefore it is not a good idea to take an interest only loan if you intend to live in the house for 20 years or more.
Watch out: Interest-only loans are an option if you can't make higher repayments when you first get the loan, there are some drawbacks:
• It will take you longer to pay off the loan, because you still have to pay off the principal after the interest-only stage ends.
• You will also pay more interest overall. A standard home loans request that you pay back some principal with each payment -- a little bit at the beginning, a lot more towards the end of the loan. This means that, with a standard loan, because you reduce your principal, your interest is reduces as well.
• If house prices fall, you may end up owing more than your house is worth. The quicker you pay off your loan, the better off you'll be.
So at the end if you are good with your money and want more flexibility, you can choose an interest only loan with minimum repayment and ideally you would choose to make additional repayments towards the principal which will reduce your interest.
MyRate helps you review Interest Only Loans and assess your situation here.
