For an individual looking for some home buying tips – especially financial – before making the plunge, there’s some appeal to an interest-only loan. The initial monthly payments are lower, making the loan seem affordable.
How This Works
It works by allowing home buyers to pay just the interest on their loan for an initial period of 3, 5, 7 or even 10 years (negotiable with your lender). At the end of the interest period, the monthly payments are then increased to include both the interest and the principal.
So, once that first term of interest-only payments ends, the monthly payments are going to increase. The borrower is left with 20-25 years to pay off the balance on their mortgage instead of the typical 30 years.
The new monthly payment is higher because now there’s less time to pay off the loan’s complete, amortized amount. That increased payment can be a problem for people refinancing on lower or fixed incomes.
Increasing Popularity
Interest-only mortgages are on the rise, but borrowers need to understand how to use that financing properly.
In this article, among the many home purchase considerations, we’ll talk about the benefits and drawbacks of interest-only refinancing loans, along with the factors you should consider before you sign for one.
Most people opt for interest-only loans with the expectation that their finances will improve, they can sell in the future or renegotiate. However, if the value of your property doesn’t increase over those first few years, it’s going to be harder to negotiate better loan terms.
Remember, with the slowing housing market, those fast appreciations in the early part of this decade are gone, meaning refinancing will be hard. And if your income doesn’t increase dramatically, those larger payments can become an insurmountable burden.
Should You or Not?
In short, if you’re planning to remain in the home long-term, an interest-only loan probably isn’t for you. If you want to free up funds to invest, but you’re planning to sell or refinance the home before the interest-only period ends, then an interest-only refinancing may be helpful after all.
If you’ve already refinanced with an interest-only loan, consider talking to a mortgage specialist to discuss your future refinancing options. When evaluating your action plan, consider how long you want to stay in the house and the realistic picture of how much you can afford to pay.
In the meantime, keep your credit rating high so you have more renegotiation power, and try to make extra payments toward the principal now before your interest-only period ends. You can offset those increased payments and make a big dent in the principle.
