Mortgage interest rate only
Many people think of interest-only mortgages the same way they think of the dodo bird. Exotic – and extinct. But this particular kind of mortgage still roams the Earth – and its numbers are increasing.
Interest-only home loans are one of those mortgage products that were very popular during the housing bubble, but virtually disappeared after the bubble burst. But many lenders are offering them again.
Certainly, this is certainly what would be considered an “exotic” loan product. An interest-only mortgage is not for everyone. But for certain types of borrowers, especially those with substantial but irregular incomes, they are almost ideal.
What is an interest-only loan?
Interest-only loans are those for which you only have to pay the interest charges. You don’t have to pay off the loan itself – for a while.
When you use an interest-only mortgage to buy a home, you usually have around 5-10 years when you just have to pay the interest. After that, you have to start making payments according to the principle of the loan. However, many borrowers like to refinance at this time with another interest-only mortgage, so they can continue to pay interest only.
So why would you do this? Who wouldn’t want to pay off the principle of their loan and increase their home equity?
Lots of high net worth borrowers, for example. They don’t want to tie up a lot of money in an expensive house – they’d rather invest it and earn money for themselves. Having an interest-only mortgage allows them to do so, while still enjoying the benefits of any increase in the value of the home when it comes time to sell.
And since the interest paid on the first million dollars in mortgage debt is tax-deductible, an affluent couple using an interest-only home loan can write off most of their housing costs. Not a bad deal.
There is another type of borrower that interest-only mortgages make a lot of sense for, and that is someone with substantial but irregular income – perhaps a small business owner or a salesperson who is pulling the money. most of its income from commissions or bonuses.
For this type of borrower, an interest-only mortgage allows them to make small monthly payments when needed, and then make large payments against the loan principle when the money comes in. They always repay the loan, they are just doing it in irregular stages.
Other types of interest-free home loans
You don’t have to have an interest-only mortgage to buy a home. In fact, the most common type, one that is readily available to average homeowners, is the Home Equity Line of Credit, or HELOC.
Home equity loans are a type of mortgage loan because they are secured by your home as collateral. HELOCs are typically set up as interest-only loans during the drawdown period, when you can borrow against the line of credit. You are only required to pay the interest charges for as long as the withdrawal period lasts, although you can make payments on a loan basis if you wish.
Another common use of an interest-only mortgage is a construction loan, to cover the cost of a new home while it’s being built. In these situations, a buyer will often take out a loan at interest only to cover the cost of land, materials, contractors, etc. The loan is then structured to turn into a regular fully amortizing loan once the house is completed and the new owner takes possession of it.
However, for the remainder of this article, we will be talking about interest-only mortgages, as they are used to purchase a home.
Eligibility for an interest-only mortgage
It should be obvious that, when used to buy a home, interest-only loans are a product for financially savvy borrowers. However, during the real estate bubble years, they were often marketed to less sophisticated borrowers who qualified for these loans purely on the basis of their ability to pay interest, rather than interest and principle. Many of them lost their homes when the loans became fully amortized and they could no longer afford the payments.
These days, interest-only mortgages are almost uniquely a jumbo loan product, used to purchase high-end homes that are priced beyond the loan limits authorized by Fannie Mae and Freddie Mac. They are usually structured as variable rate mortgages (ARMs), although some lenders also offer them as fixed rate loans.
Obviously, the borrowers must be well qualified to be approved for these loans. Interest-only mortgage lenders often require credit scores of 720-740 or higher and a large down payment may also be required – sometimes 30% or more. But some will allow 20% or less – as with any mortgage, it pays to shop around.
Income requirements don’t vary much from regular mortgages – lenders want to see a debt-to-income ratio of 43% or less. Unlike in bubble years, however, you cannot qualify simply on the basis of your ability to cover interest payments.
In addition, interest-only mortgage lenders will generally require that you have demonstrated sufficient financial reserves to cover your fully amortized mortgage payments for a period of time. It can be as short as a few months, but some lenders may require sufficient reserves to cover payments for two or three years.
Interest-only mortgage rates
Interest-only home loans do not meet the criteria for qualified mortgages (QMs) defined by the Consumer Financial Protection Bureau (CFPB). In fact, these guidelines specifically exclude interest-only mortgages. As such, the lenders offering them lose some legal protections that they would otherwise gain to ensure that the borrower has the capacity to repay the loan. As a result, these loans present additional risk for the lenders and hence their rates are a bit higher.
Interest-only mortgage rates don’t have to be high. In some cases, they may be only a quarter of a percentage point more than what you would pay with a comparable fully amortizing jumbo loan. However, the rates vary widely from one lender to another and depending on the qualification of the borrower. The higher your credit score, the larger your down payment and the more financial reserves you have, the more likely lenders will be willing to offer you their best mortgage rates with interest only.
Interest only mortgage calculator
Thinking about an interest-free home loan? Use our interest-only mortgage calculator to calculate your payments.
Would you like to receive quotes for interest only mortgages?
Click HERE and you will be on your way.