Borrowing to buy a property and repaying only the interest for a set period can be a great choice for some. Interest-only loans can offer financial flexibility whilst you invest. There are some very important risks to take into consideration.
With interest rates at historical lows, interest-only loans may sound more appealing than ever. Although they offer the opportunity to enter the property market with lower repayments, care must be taken. Interest-only loan repayments do not pay down the actual purchase price (or principal) of the property.
Not building equity
The principal amount borrowed will not reduce unless you choose to make additional repayments, if that is allowed under the loan terms. As a result, the interest-only loan may cost you more over the full term of the loan. If you’re only repaying the interest on a loan, you’re not building up the equity on your home during that period.
For an interest-only loan to be part of an effective property investment plan, you must be comfortable that the property’s value will increase substantially. If the value doesn’t increase by more than the interest paid, you may end up losing out.
Eventually, interest rates will rise again as the market ebbs and flows. Once a loan reverts to principal-and-interest repayments and if you are unprepared you may find yourself in a financial struggle. It is very important you have a clear plan for when the interest-only period ends and your P&I repayments resume.
For more information on interest only loans, or if you have an interest only loan about to expire – come chat!