Interest Only Mortgages

by Mark Johnston

An interest only mortgage offers a cheaper way to purchase a property than with a capital repayment mortgage, because borrowers are only paying off the interest and not the capital.

An interest only mortgage can sometimes work out cheaper than renting. Borrowers may not be paying off the capital, but they do still own their own home and have therefore managed to get a foot on to the property ladder.

Research has shown that between 2005 and 2009 it is estimated that roughly one million home owners throughout the UK actually opted for an interest only mortgage; this was in order to secure additional capital by limiting their monthly payments.

The Council of Mortgage Lenders (CML) statistics have shown that by 2007, 33% of mortgages being taken out were interest only.

It was not that long ago that home owners could simply pick up the phone to their lenders, pay a small fee and switch from a repayment mortgage to an interest only mortgage.

An example of an interest only mortgage versus a capital repayment mortgage would be: a home loan of £150,000 at 5% over 25 years would cost approximately £625 per month interest only and £877 per month capital repayment.

Whilst the monthly mortgage costs are significantly cheaper borrowers must remember that at the end of the interest mortgage term the original borrowed amount will need to be repaid, where as a repayment mortgage would have cleared the debt.

Interest only mortgages have been the ‘elephant’ in the room in the UK property market for some time.

According to the latest reports from many lending institutions throughout the UK interest only mortgages are quickly becoming a thing of the past.

With the recent instability of housing prices many lenders are becoming more wary about offering interest only mortgages to potential home buyers, especially first time buyers.

Under new rules proposed by the Financial Service Authority (FSA), to prevent a return to risky lending, borrowers will no longer be able to use interest only mortgages as a cheaper alternative to purchase a property.

Lenders will be forced to verify the income of every borrower and they will also ‘stress test’ mortgages to ensure borrowers can still afford repayments even if rates were to rise. These proposals follow a 2 year study by the city watchdog.

Many lenders have effectively pulled the ‘shutters’ down on interest only mortgages since the financial crisis. Although there are still some lenders that will allow borrowers to have an interest only mortgage, but it will come at a price.

The Halifax has added an extra 0.2% in fees for borrowers who opt for an interest only deal. They also now require the borrower to provide written proof of how they will repay the loan, before a mortgage offer is made.

Lloyds has also changed the types of ‘repayment vehicles’ it will accept for interest only mortgages. It will no longer accept:

–          selling the property

–          selling a business

–          coming in to an inheritance



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