Interest Only Loans: What You Should Know

Of the many different types of home loans out there, interest only loans are one of the more unusual types.  Although they are not much in use any more, you may still run into the option.  You should know what they are all about before you even consider one.

Allowing You To Afford More Than You Really Can

What an interest only loan basically does is allow you to afford more of a home than you actually can afford.  This trick is pulled off by allowing you to make monthly payments that are only on the interest portion of the mortgage.  What that means is that you are not actually paying down the principal balance of the loan, merely paying the interest.  This generally allows you to have a larger mortgage because the payment is smaller due to the fact that you are actually paying only the interest.

Any Loan Can Be Interest Only

An interest only loan is really not a particular type of loan, but a particular method of making payments on your loan.  You can generally attach the interest only option to just about any mortgage, if the lender allows it.  When you have an interest only option on your mortgage, you need only pay the interest portion to stay current, but you can pay a larger amount if you want in order to pay down principal.

Higher Interest Rates

Although there are claims that interest only loans may carry lower interest rates, this is generally untrue.  In fact, you may find the interest rates are actually higher, because the mortgage company doesn’t usually prefer this method of payment.  There is a higher risk of default on the loan, and so they charge more interest.

An interest only loan option can work very well for some people, especially if the market is on the rise.  Even if you pay only interest, if the value of the house increases you can still gain equity.  You run the risk, however, of losing value in the house and finding yourself paying too little to gain anything in equity.  For this reason, interest only loans should be approached with caution.