Interest-only loans are popular among Australian borrowers, but before you sign-on, it’s important you understand what this means.
What is interest-only?
An interest-only loan means you only pay the interest charged on the loan during a defined period – usually up to five years – leaving your principal balance unchanged.
Weigh-up the benefits
Most lenders will charge a higher rate on interest-only loans. Despite this, interest-only repayments are still lower than their principal and interest equivalent.
For example, on a $400,000 loan at an interest rate of 4.29%, interest-only repayments would be $1,430.
In contrast, a $400,000 loan repaid over 30 years at a rate of 3.79% would see principal and interest repayments increase to $1,862.
During any interest-only period, you are not repaying any of the original loan amount borrowed.
This means that when your interest-only period ends, the time you have to repay your original loan amount is reduced. So, your new repayments will be much higher.
Referring back to our $400,000 loan example, after an interest-only period of five years, the monthly repayments increase to $2,176 with 25 years remaining on the loan.
That’s an extra $746 every month, and considerably higher than if you’d repaid principal and interest from day one.
Overall, the loan with the interest-only period will cost you an additional $35,213 in total repayments over the 30-year term.
Plan your rollover
If you do decide to go interest-free, make sure the end of your interest-only period is marked in your calendar and budget for the change.
If you’re going to struggle with the extra repayments, contact your lender early to negotiate other repayment options.
For more information about whether an interest-only loan is the best option for you, contact a Liberty Adviser today.