When you’re looking for ways to minimise the monthly costs of owning an investment property, you may well come across the concept of interest only loans. There are loans from the bank or other lender that allow you to pay down the interest on your mortgage, rather the traditional path of having to pay off the principal and the interest.
As an example, if you decide to borrow $400,000, at today’s interest rates your monthly repayments under a traditional principal and interest mortgage would be $2,271. With an interest only loan your monthly repayments would be only $1,833[i]. Interest only loans are often included in property investment tips because investors can reduce their monthly repayments significantly like this over several years while receiving rental income and waiting for the property to go up in value. This gives them increased cash flow as well as flexibility to use the extra money for other investments if they choose.
At a certain point in the market the investor will then choose to sell for a profit without having paid down much or even any of the principal. Even better, if the investment is negatively geared – meaning that the cost to own and manage the property exceeds its income – then the interest and maintenance costs can often be claimed as tax deductions. Obviously this will vary depending upon personal circumstances as well as the property and investors should seek professional financial assistance if they are planning to go down this path.
As a short-term plan this can work, although there are obviously many caveats to this plan. Based on the example above, for example, the overall value of the loan under the interest only mortgage comes out at a little over $1,000,000, whereas if you’d chosen the option to pay off the principal and the interest together the total cost of the loan would only be $817,000. This is a substantial difference, and in a way you are simply “putting off” repaying the full amount until a later date. Most property investment tips suggest that interest only loans should be seen as short term option only, with investors carefully reviewing the value of their properties after 5 years, as well as being sure they have enough money to be able to pay off the full amount at a later date.
There are other types of loans available, including mortgages that have an interest free period, which will then switch to a normal principal and interest option. As with all loans, most banks and other lenders also have lending criteria and rules when it comes to applying for such mortgages. If you are interested in such loans then speak to your bank or mortgage lender.
There are many reasons why people may choose to opt for an interest only loan, or even change the repayment terms of their loans. Property investment tips online make it clear that interest only loans can work for investors as part of a wealth management strategy, as long as they are aware of the implications over the long term for their mortgage.