What is the true cost of an interest only mortgage in the UK
Here at Online Mortgage Advisor we’re getting more and more queries about interest only mortgages. Customers come to us to ask not only how much an interest only mortgage will cost in monthly payments, but to get an idea of the other costs and fees associated with interest only borrowing - whether it’s for a buy to let mortgage, a secured loan, or for a first or second home.
The specialists we work with can help guide you towards the right interest only mortgage for your circumstances, and they will search the whole market for lenders offering the best rates, even if you’ve been turned down or this type of product before.
How does an interest only mortgage work?
What is an interest only mortgage? Interest only mortgages differ from repayment mortgages in that you only pay the interest on the total sum borrowed, in monthly instalments, for an agreed period of time. The full loan amount will then be settled at a later date, usually at the end of the term.
How much would I pay on an interest only mortgage?
The amount you plan to borrow will give you a good idea of what your interest only payments will be. For example, if you take out an interest only mortgage of £100,000 with 5% interest over 25 years, the monthly repayments would be £417 (cheaper than with a repayment), but you would still owe the full £100,000 at the end of the loan term.
To ensure that you’ll be able to pay off that final balance at the end of the term, you will need to have a “repayment vehicle” in place. We will cover the various options available in the eligibility section of this article, but this could be an ISA, funds raised by the sale of property, or one of several types of lump sum.
Are interest only mortgages more expensive?
With an interest only mortgage, you can expect to pay significantly less in monthly instalments. This should have a positive impact on your cash flow and allow you to make more savings and investments. However, the overall amount you owe the lender will not decrease throughout the term, so the total interest you pay over the term can be higher.
When deciding whether an interest only mortgage is right for you and your family, you’ll need to weigh up several factors such as the long-term performance prospects of your savings and investments, the health of your immediate cash flow, the state of the wider economy, and your appetite for the risks inherent in owing more to the mortgage company over a longer period of time, if your repayment plan doesn’t perform as you’d expect.
Monthly payments on interest only mortgages
The monthly payments on an interest only mortgage will always be lower than the equivalent monthly outlay on a repayment mortgage. This is because with interest only you are not clearing any of the mortgage balance; you’re simply servicing the interest you owe to the lender.
How much will an interest only mortgage cost you?
Take a look at the table below which compares the monthly cost of interest only mortgages with the relative cost of a repayment mortgage by amount borrowed. For the purpose of this illustration we’ve assumed a 5% interest rate over a 25 year term.
Mortgage payment: interest only vs. repayment
Approx. Interest only mortgage cost per month
Approx. Repayment mortgage cost
£30,000 interest only mortgage
£40,000 interest only mortgage
£50,000 interest only mortgage
£60,000 interest only mortgage
£100,000 interest only mortgage
£120,000 interest only mortgage
£130,000 Interest only mortgage
£150,000 interest only mortgage
£200,000 interest only mortgage
£250,000 interest only mortgage
£300,000 interest only mortgage
£400,000 interest only mortgage
£500,000 interest only mortgage
The above figures are based on an interest rate of 5% over 25 years and are for demonstrative purposes only. We recommended you contact your lender or broker for the most up-to-date information.
Calculate your interest only mortgage monthly payments
If you know the exact amount you’re planning to borrow and want to see a more accurate idea of how much an interest only mortgage will cost you, it’s best to speak to an expert advisor who can give you the right advice. They will be able to search the whole market to find the best lenders for your situation, and they will use a mortgage cost calculator for interest only monthly figures, and compare these with the projected repayments on a standard interest-and-capital mortgage.
Large interest only mortgages
A £100k interest only mortgage will naturally incur higher monthly costs than, say, a £40k interest only mortgage, but what if you’re looking to take out something bigger, such as a million pound interest only mortgage - or perhaps an even higher sum?
In general, fewer mortgage companies can lend these larger amounts on an interest only basis. Fortunately, there are lenders out there who are prepared to offer bigger mortgages with interest only payments if you meet certain criteria, so take a look at the table below to get an idea of what you can expect to pay each month:
Monthly payments interest only mortgage
Monthly repayments, repayment mortgage
£1,000,000 interest only mortgage
£1,250,000 interest only mortgage
£1,500,000 interest only mortgage
£2,000,000 interest only mortgage
Deposits on larger interest only mortgages
One factor that lenders will look carefully at when considering applications for very large interest only mortgages is the size of deposit you are able to put down. The loan may need to be split into part interest only and part repayment when it exceeds a certain threshold - also known as a ‘part and part’ mortgage.
Interest only mortgage costs and fees
You’ll need to factor in a number of associated fees and costs when taking out an interest only mortgage, such as:
Eligibility for interest only mortgages
On any size of mortgage, interest only repayments will work out lower per month than repaying interest and capital. You’ll need to meet the eligibility criteria, as well as demonstrating how you will eventually finance repayment of the interest only mortgage. The key criteria are as follows:
Lenders will only consider your application if you have what’s known as a ‘repayment vehicle’ in place (unless you’re applying for a buy to let mortgage).
Types of repayment vehicle include:
Sale of property (not acceptable for residential interest only)
Sale of another property
Downsizing to a cheaper property
ISA (Many lenders no longer accept ISA)
Pension lump sum
How will my credit rating affect getting an interest only mortgage?
Since an interest only mortgage can be regarded as a ‘riskier’ option from the lender’s perspective, you may be subject to more stringent assessment on your credit score.
Fortunately, there are lenders that will consider your application even with several types of ‘bad credit’ issues.
Will my age affect my application?
Your age, and that of any joint applicants may be taken into account when assessing suitability for an interest only payment mortgage, particularly if you are nearing or past retirement. Some lenders will factor this in, while others ignore it.
Affordability and interest only mortgages
Lenders consider a variety of factors when calculating affordability, and they will take the following into account when assessing whether you can afford the proposed repayments on an interest only mortgage.
Minimum income requirements:
Some lenders set a minimum income level that applicants must earn in order to qualify for an interest only mortgage. Thankfully some lenders have no minimum.
Some lenders insist on standard PAYE and will only accept basic income, where others cater for self-employed, accept bonuses or commission as income, as well as benefits.
Every lender is different in how they calculate maximum affordability. Some lenders cap lending at 3 and 4x income, a few will cap at 5x, and a handful can consider up to 6x income.
Loan to value (LTV): The size of deposit you are able to put down affects affordability: because usually the bigger the deposit, the lower the rate, and therefore, the smaller the interest only payments on the mortgage. Also, if you don’t have enough deposit many lenders will insist the mortgage is taken on a repayment basis (as mentioned before, most lenders require 25%, although some can go up to 80%, and a handful up to 85% in the right circumstances).
Some lenders impose a loan cap:
This simply means they can offer interest only products up to a certain £ amount, but they may insist on a repayment model after the sum to be borrowed hits a certain threshold.
Can I get an interest only secured loan?
Secured loans (also called ‘second charge mortgages’ or ‘second charges’) are a means of financing using a property that already has a mortgage in place as a security.
Customers often get in touch with us to ask if this type of borrowing is possible on an interest only basis, and the answer is yes - there are several lenders that offer secured loans that can be paid off with interest only mortgage repayments.
Affordability criteria for interest only secured loans
Lenders can usually also offer higher loan amounts for second charges, as they can be more generous in their affordability assessment than they can for a standard interest only mortgage.
Speak to an expert on interest only mortgages
If you want to gain access to the lowest possible mortgage payments on interest only terms or have questions and want to speak to an expert for the right advice, call Online Mortgage Advisor today on 0800 304 7880 or make an enquiry here.
Then sit back and let us do all the hard work in finding the broker with the right expertise for your circumstances. – We don’t charge a fee and there’s absolutely no obligation or marks on your credit rating.
*Based on our research, the content contained in this article is accurate as of most recent time of writing. Lender criteria and policies change regularly so speak to one of the advisors we work with to confirm the most accurate up to date information. The info on the site is not tailored advice to each individual reader, and as such does not constitute financial advice. All advisors working with us are fully qualified to provide mortgage advice and work only for firms who are authorised and regulated by the Financial Conduct Authority. They will offer any advice specific to you and your needs. Some types of buy to let mortgages are not regulated by the FCA.Think carefully before securing other debts against your home. As a mortgage is secured against your home, it may be repossessed if you do not keep up with repayments on your mortgage. Equity released from your home will also be secured against it.
Pete, an expert in all things mortgages, cut his teeth right in the middle of the credit crunch. With plenty of people needing help and few mortgage providers lending, Pete found great success in going the extra mile to find mortgages for people whom many others considered lost causes.
The experience he gained, coupled with his love of helping people reach their goals, led him to establish Online Mortgage Advisor, with one clear vision – to help as many customers as possible get the right advice, regardless of need or background.
Pete's presence in the industry as the 'go-to' for specialist finance continues to grow, and he is regularly cited in and writes for both local and national press, as well as trade publications, with a regular column in Mortgage Introducer and being the exclusive mortgage expert for LOVEMoney. Pete also writes for OMA of course!
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