My First Property

Repayment & Interest Only Mortgages

There are two different concepts when it comes to a mortgage: one in which you gradually pay off the actual balance of the mortgage itself (in addition to the interest accrued) - this is called a repayment mortgage.

Another mortgage product is called an interest only mortgage: with this product you simply pay off the interest on the loan. At the end of the term of the mortgage you then have to give a lump sum for the actual sum of the mortgage.

Let's give a practical example: with a £150,000 mortgage after the, say, 25 year term on a repayment mortgage you'll have paid the whole balance off and own the home outright. However, with an interest only mortgage, you just pay interest, so at the end of the term you will have to have £150,000 sitting in the bank to pay off the whole amount.

It seems clear that the repayment option is better, so why would people go for a repayment mortgage? Well, the reason is to do with affordability particularly in the early years of the mortgage. Because they are just paying off interest, the monthly payments are considerably less with an interest only mortgage. So for those with little money, the interest only mortgage can be attractive, particularly at the start. Generally over time, if employed, people will start to have more cash and more money as they get pay rises etc, and therefore may move from an interest only mortgage to a repayment one after a certain number of years.

The big downside of the interest only mortgage is that you need the plan in place to pay off the whole amount of the mortgage if you stick with that type of product all the way through to the term maturity: those lump sums don't grow on trees so you either need some sort of investment plan in place or some other way of saving the money, perhaps through discipline and putting aside that amount each month. Overall however you will end up paying considerably more with an interest only mortgage rather than a standard repayment one, which is why most people go for the repayment option, or if they start with an interest only mortgage change as soon as they are able to.

And that, in a nutshell, is the difference between a repayment and an interest only mortgage.

More first-time house buying articles:

  1. How To Save Money for a Mortgage Deposit
  2. The Downside of Renting versus Buying
  3. Finding a Property & Location
  4. Where To Buy a House: Choosing a Location
  5. Repayment & Interest Only Mortgages

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