How does interest only mortgages work?
In an interest only mortgage you still usually need to have a way to pay off the sum at the end of the term (ie 20 years later). The idea is that you can usually get a better investment rate by investing in the stock market over 20 years than you would get by paying off the mortgage sum. ie… Interest only mortage – 5% interest rate Investment in an index tracking fun ca. 11%. So you get a 6% better return by investing in the stock market than you do by ‘investing’ in paying off the capital in your mortgage. Overall payments tend to be similar as you have to pay the mortgage AND put away enough to pay off the capital at the end. Some mortgages offer an interest free period and then revert to a standard interest+repayment mortgage. This makes the first few years cheaper but is more expensive overall. if you already have an existing mortgage your provider might agree to give you a period of interest only if you are having trouble making the repayment each month (ie it is better for them
Doesn’t work very well. As you are paying only the interest and none of the principle is amortized (paid off), you will be required to pay a big lump sum, the principle, at the end of the payment period. Many, if not most, borrowers fail to prepare for that big lump sum and need to default and/or go into bankruptcy protection. Interest only is not a good idea.
