What’s an Interest Only Mortgage?
If you’re buying a home, you may not have considered an interest only mortgage. But in certain circumstances, it can be the right choice for financing a real estate transaction. An interest only mortgage is a financing arrangement that allows buyers a specific period of time – often between five and seven years – where they’re able to make reduced payments on their mortgage by paying only interest. During that time, the mortgage principal remains the same. Once the interest only period is over, buyers need to begin paying full mortgage payments, make a balloon payment, or refinance. Here’s a closer look at what to evaluate when you’re considering interest only financing.
Why would you consider an interest only mortgage?
Interest based mortgages allow buyers to opt for a lower payment in the first several years of homeownership. Often, buyers who are going to sell a home within a short period of time will choose this option to minimize the cash they’re spending. It’s also a popular choice with buyers who would benefit from a lower payment in the short-term, but know that they can handle a higher payment within a specific period of time. One scenario that comes to mind is a professional, such as a doctor, who is graduating from school and will soon join the workforce. In other cases, buyers choose to take an interest based loan because they’re able to command a higher return by investing funds elsewhere.
Advantage of an interest only loan
The biggest advantage of an interest only loan is a lower payment during a certain period of time. Lower initial payments can help buyers afford more expensive homes. During the interest-only period, the entire mortgage may be tax deductible depending on the buyers’ individual situation. If money is being directed elsewhere such as profitable investments, the buyers’ net worth could be growing as well. It’s also possible to pre-pay on the principal during this period, which can reduce mortgage payments or the pending balance over time.
Points to consider before going this route
While this can be a great financing model for the right buyer, there are reservations and aspects to consider. One of the most important is unanticipated changes to income, a failure to realize income goals, or a home that doesn’t appreciate as expected. Market changes can leave buyers unprepared to deal with payments, which can often double once the interest only period elapses. Buyers may experience payment shock, and have failed to invest according to plan which can leave them scrambling to sell or refinance. If a mortgage is an adjustable rate mortgage, interest only payments can fluctuate which makes it harder to capture the benefits of lower payments. It’s also important to note if there’s a prepayment penalty on the mortgage that you’re considering.
Are you a buyer in the Las Vegas area who is considering buying a home? Contact Sydnee Johnson today to discuss your options, including interest only mortgages.