Most homeowners are familiar with principal-and-interest mortgage payments, which is the standard for most home loans. But interest-only mortgage payments work differently, offering lower monthly payments upfront with the trade-off of higher payments later.
If you’re considering an interest-only mortgage, here’s what you need to know, including how they work, their advantages and risks, and whether they make sense for your financial situation.
What Are Interest-Only Mortgage Payments?
A traditional mortgage payment includes:
- Principal – The portion that reduces your loan balance over time.
- Interest – The cost of borrowing the money.
With an interest-only mortgage, your monthly payment only covers the interest, meaning your loan balance stays the same unless you make additional payments toward the principal.
This setup results in a lower monthly payment compared to a fully amortized mortgage. However, once the interest-only period ends, your payment increases significantly when principal payments begin.
Example of an Interest-Only Payment
A homeowner takes out a $300,000 mortgage at a 6% interest rate:
- Traditional Loan Payment (Principal + Interest): Approximately $1,799 per month
- Interest-Only Payment: $1,500 per month
With an interest-only loan, the borrower pays only $1,500 per month, but the loan balance remains at $300,000. With a traditional mortgage, part of each payment reduces the loan balance.
How Do Interest-Only Mortgages Work?
Interest-only mortgages have two phases:
Interest-Only Period (5–10 years)
- Borrowers only pay interest each month.
- The loan balance does not decrease unless extra payments are made toward the principal.
Principal + Interest Repayment Period (Remaining Loan Term)
- The loan converts to a standard principal-and-interest payment structure.
- Monthly payments increase because the remaining loan balance must be repaid in a shorter period.
For example, a 30-year mortgage with a 10-year interest-only period will have higher payments in the final 20 years than a loan that included principal payments from the beginning.
Pros and Cons of Interest-Only Mortgages
Advantages
- Lower Monthly Payments – During the interest-only phase, payments are lower, freeing up cash for other expenses.
- More Cash Flow for Investments – Real estate investors use interest-only loans to maximize cash flow while properties appreciate.
- Flexibility – Borrowers can choose to make extra principal payments when financially beneficial.
- Short-Term Financial Relief – This option can be useful for those with variable income, such as self-employed borrowers.
Disadvantages
- No Principal Reduction – Loan balances remain the same unless extra payments are made.
- Higher Long-Term Costs – Borrowers will pay more interest over time compared to a fully amortized loan.
- Payment Shock – Monthly payments increase significantly when the interest-only period ends.
- Limited Availability – Not all lenders offer interest-only mortgages, and they may have stricter qualification requirements.
Where Are Interest-Only Mortgages Common?
Home Equity Lines of Credit (HELOCs)
- Most HELOCs offer interest-only payments during the draw period, typically five to ten years.
- After the draw period ends, the borrower must start repaying principal and interest.
Investment Properties & Commercial Loans
- Investors use interest-only loans to maximize cash flow while properties appreciate.
- This strategy works best when real estate values increase but carries risks if property values decline.
Adjustable-Rate Mortgages (ARMs) & Specialty Loan Products
- Some ARMs and all-in-one loan programs include interest-only options.
- These products are designed for borrowers who plan to pay off or refinance the loan before the principal payments begin.
Who Should Consider an Interest-Only Loan?
Interest-only loans can be useful in certain situations. They may be a good option for borrowers who:
- Have a clear plan to pay down the principal before the interest-only period ends.
- Need short-term payment flexibility due to variable income.
- Are purchasing an investment property where cash flow is the priority.
- Plan to sell or refinance before principal payments begin.
However, interest-only loans are generally not recommended for borrowers who:
- Plan to stay in their home long-term and want to build equity.
- Prefer predictable monthly payments without the risk of increasing costs.
- Would struggle to afford the higher payments once the principal repayment period begins.
Key Considerations Before Choosing an Interest-Only Loan
- Affordability After the Interest-Only Period – When principal payments begin, monthly costs will increase significantly.
- Financial Discipline Required – Unlike a traditional mortgage, the borrower must take initiative to pay down the principal.
- Lender Qualification Requirements – Interest-only loans may have higher credit score and income requirements.
Should You Get an Interest-Only Mortgage?
Interest-only mortgages can provide short-term flexibility, but they are not the right choice for everyone.
For homebuyers or investors who need temporary lower payments and have a clear repayment strategy, interest-only loans can be an effective tool.
However, for borrowers who want to build home equity and avoid payment increases, a traditional principal-and-interest loan is usually a better option.
Explore Your Loan Options with the Mortgage Mark Team
Interest-only mortgages are not offered by all lenders and come with unique risks and benefits. Before deciding if this type of loan is right for you, speak with an experienced mortgage professional.
The Mortgage Mark Team will help you compare options, understand repayment terms, and determine the best mortgage solution for your financial goals.
Mark Pfeiffer
Branch Manager
Loan Officer, NMLS # 729612
(972) 829-8639
MortgageMark@MortgageMark.com