Interest Only Mortgage Loans
Pros and Cons of interest only mortgages
Interest only mortgage loans are often forgotten when discussing the purchase of a home, as most people tend to only think of a standard amortized loan. With many risks and bad press involved with interest only mortgage loans, most homebuyers tend to stick with what they consider to be safe. Interest only loans are usually considered by the more sophisticated investor. This type of loan either gives you more financial freedom as the payments can be much lower than a conventional loan or they allow you to purchase a much more expensive home with the monthly payment rates being kept low. Although these benefits may seem pretty amazing, it is important to understand that these home loans should be used wisely as they carry an element of risk.
The name "interest only" implies that you will only have to pay the interest. This is partly true as in the first 10 years of the term of the loan the payments you make are purely made up of interest. This means that no principle at all is being paid at the beginning of the term. However, when the interest only period ends, the loan generally turns into a traditional amortizing mortgage for the remaining period. Given this information, it is clear to see that there is a possibility that you will be paying more interest later when you start to pay the outstanding principle.
Another disadvantage of an interest only loan is that homebuyers who take out bigger mortgage are not only gambling on the fact that their income will rise but also that their house will increase in value. As these people are not paying any principle, they are not building up any equity in their home. They are simply relying on the market to do that for them. There could be big trouble if the market does not appreciate and there is a fall in the housing market.
In spite of all this, if you use these loans wisely, it is easy to see that there can be some advantages. At the beginning of the loan, the homeowner pays less each month. These extra funds can then be used to improve the home, pay college fees, pay off credit cards or even save for retirement. The savvier borrower can use the money that they save on the principle on a more prospering investment, but as with all investments, nothing is guaranteed so you should have a back-up plan in case none of your ventures deliver good returns.
It is always wise to do a little research when choosing a mortgage loan. A mortgage broker, sources on the internet and articles in the financial papers can all provide you with valuable information.