Interest-Only Mortgage

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Interest-Only Mortgage Frequently Asked Questions

Listen below as Michael Webb talks all about mortgages for Interest-Only Mortgage.

In just over 15 minutes, you’ll know a lot more about getting your mortgage sorted.

What is an interest only mortgage? Can you still get interest only mortgages?

Yes, interest only mortgages are still in the marketplace. They’re less popular than they were 20 years ago for residential lending, while on Buy to Let lending they’re still very popular.

Basically, with an interest only mortgage you literally just service the interest on a monthly basis. You never actually pay back any of the capital or principal sum that you borrowed.

If you borrowed £100,000 for 25 years on interest only, you would make payments each month for the interest amount. But at the end of the 25 years, you still owe the £100,000 and need to have the ability to pay that back.

What’s the difference between interest only and repayment mortgages?

With an interest only mortgage you just pay the interest – you won’t pay any of the principal loan back each month. On a capital repayment mortgage, each month your payment will be split between the interest owed and the capital repayment.

Typically, interest is worked out on a daily basis. Let’s say you’re on a fixed rate and you’re paying £1,000 a month. The proportion of that £1,000 that goes towards the capital will slightly increase each month, as you pay off the debt and the interest due reduces.

On interest only, you will pay more interest overall than on a repayment mortgage – because you’re never reducing that £100,000 debt.

How much do I need to earn for an interest only mortgage?

If we’re looking at residential mortgages rather than Buy to Let, there are different lending criteria. It’s difficult to put an exact number on it, but today’s interest only market is targeted towards higher earners and people with significant equity and value in their properties.

Typically we are looking at higher earners, of £50,000, £75,000 or £100,000 a year, depending on the lender. You usually need to have quite a lot of equity in the property and a large chunk in a monetary amount as well.

What are the terms for an interest-only mortgage?

The terms for an interest only mortgage are similar to the usual repayment mortgage terms. They will max out at retirement age.

But obviously, you need a strategy in place to pay the mortgage off. There are plenty of strategies that people could employ, yet there’s no guarantee that those strategies would pay off.

Are Buy to Let interest only mortgages available?

Buy to Let interest only mortgages are very much available. I would say the vast majority of these are interest only – mainly for cash flow and accounting purposes.

Are interest only mortgages available for the self-employed?

Yes. Whether you’re assessed as a sole trader or a director of your own company, you will have access to interest only mortgages. But you will still need to meet the same income criteria from lenders.

Can a First Time Buyer get an interest only mortgage?

Yes, but it’s highly unlikely that they would fit the criteria. The income criteria might not be an issue, but it’s the equity and Loan to Value criteria that they will struggle with.

Some lenders, for example, will only do interest only if it’s 50% Loan to Value. It’s highly unlikely that a First Time Buyer is going to have a 50% deposit. It could be a challenge to fit all of the criteria required.

Can I make a joint application for an interest-only mortgage?

Yes, you can. Just as with any other mortgage, there can be joint applicants. Some of the income criteria require that at least one person needs to earn a certain amount. Or perhaps the application needs to have one person earning a set amount, plus the income total must reach another threshold.

There can be other elements of criteria that are put in place for joint applicants but your broker would explain these.

Can I get an interest only mortgage with bad credit?

It’s much less likely, although it really depends on what the bad credit is. A missed or late payment on a credit card three years ago is very different to missing six months’ mortgage payments.

You’re already working within a contracted market, because not many lenders offer interest-only residential mortgages. When you start adding bad credit into the equation, you’re likely to remove most, if not all, of the lenders.

What are the pros and cons of an interest only mortgage?

The main pro is that the mortgage payment will be cheaper, because you’re only ever paying the interest. In terms of the cons, obviously at the end of the term you still need to be able to pay the principal amount back.

History has shown us that most people with interest only mortgages have no strategy for doing that. Many have ended up in some form of financial difficulty because of it – hence the requirement for a lot of equity in the property nowadays.

You’ll pay more interest because you’re not reducing the capital. And because of that, if property values drop, it’s much easier to go into negative equity.

Speak to an expert

We’ll talk to you about what you’re looking to achieve, what’s important to you in the mortgage, what your financial goals are. We help you formulate your strategy and make the most appropriate recommendations for you. It means you get the most appropriate and best deal for your circumstances.

How long can you stay on an interest-only mortgage?

If you can get an interest only mortgage, it will be until the term of the mortgage ends. You can take out most mortgages up to your retirement age.

Can you pay off an interest only mortgage early?

Some people we’ve worked with over the years have made overpayments on their interest only mortgage to reduce the capital. Maybe a client receives an inheritance and wants to pay the mortgage off.

Or, they might sell the property, take the equity and buy something else on a repayment mortgage. So yes, there is the ability to pay it off early, depending on the deal. There may be early repayment charges to consider, so seek advice.

Can you extend the term of an interest only mortgage?

That will be down to the individual lender’s appetite for it. We have seen plenty of people that have come to the end of their interest-only mortgage term, and their strategy has been to sell the property. Sometimes they are not able to do so, and the bank has given them extra time to get the property sold.

But eventually they will ask for their money back. If you’re reaching maximum age on the mortgage, it’s going to be a lot more difficult to extend the term than if, say, you’re 45 when your mortgage is coming to an end.

What happens when my interest only mortgage expires?

Let’s say you’ve taken out a 25 year mortgage and we’re coming to the end of that. Your contract says that your last payment on your mortgage should be the capital that you originally borrowed.

We’ve used an example of £100,000 – if you’re unable to make that one last payment of £100,000, you will be in default on your mortgage. That will affect your credit file and put you at risk of having your property repossessed.

That’s why the FCA and all the criteria have become really stringent over the last 15 years – to make it difficult for people to get interest only mortgages unless they have an ability to repay it at the end.

What are my options if I can’t repay the capital of an interest only mortgage? Will the lender repossess my home?

If you’re approaching the end of your term and you can’t repay the capital on the interest only mortgage, your first course of action needs to be a conversation with your lender.

In our experience, they will do everything within their capability to help you. A repossession will be their last resort, but if the only way you can repay the mortgage is by selling, you will be expected to do that. Most lenders will work with you to get the property sold without putting it under a possession order.

But people should take some ownership of the fact that their mortgage is coming to an end. It’s better to get ahead and try and sell the property beforehand.

Can I get an interest only mortgage at age 60?

Recently there were literally a million interest only mortgages in the UK that were expiring, with zero ability to repay them other than selling the property. The market reacted to this and brought out some products classed as Retirement Interest Only deals.

There are also Lifetime Mortgages and home reversion plans. A lot of people who want to stay in their properties are investigating these options, to effectively remortgage their interest only deal for their retirement years.

So there are possibilities to explore beyond age 60. They may not be suitable or advisable to every person, but a broker can explain the options to you.

Can you claim back on an interest only mortgage?

This question is more related to Buy to Let interest only and whether you can claim back the interest against your rental received. There have been changes in how that works.

It really falls within Buy to Let tax advice, so I’d encourage anyone with a Buy to Let interest only mortgage to speak to a tax professional. That’s the best way to see what your situation is and how the interest will be dealt with against rental received.

How do I get an interest only mortgage? What’s the process?

The process is the same as getting any mortgage. It will just be the criteria that you need to go through, and the lender will need to be very comfortable with your strategy to pay it off at the end. They’re obliged to be able to present this to the FCA if asked.

They will check this with you throughout your mortgage, so be warned. You always need plans in place to pay it off. These things never used to happen, which is why lots of people are coming off interest-only mortgages that they took out 30 years ago. They’re now over the age of 60 and the options are smaller for them.

You will get the product the same way as any other mortgage, but there’ll be a few more hoops to jump through.

What else do we need to know about interest only mortgages?

Your first port of call should be a consultation with a mortgage broker. We will dig deep into your situation and ask lots of questions – including things you may not be thinking about, to make sure you’re making suitable decisions for the future.

Your home may be repossessed if you do not keep up with your mortgage repayments.