Interest only mortgage loans are simply that; for a specified period your payments will be based solely on the interest due. Because there is no loan principle included in these payments the monthly payment amount is much less. The catch is that when the interest only period ends the principal is added back in and amortized against the remaining loan term. This means for example, if you took out a thirty year mortgage with a five year interest only period, your new payment amount will be based on a 25 year loan term. The end result is a much larger payment amount than if you had financed your loan with a traditional mortgage.
The lower payment amount offered by an interest only mortgage entices many individuals to purchase more home than they can actually afford. When the mortgage lender adjusts the interest rate and monthly payment amount, this can cause a budget crisis that ultimately ends up in foreclosure. Interest only mortgages are among the riskiest type of adjustable rate mortgages and you really need to know what you’re doing to avoid being burned.
If you have a low tolerance for financial risk or have a very tight budget consider financing your home with a traditional, fixed interest rate mortgage. You can learn more about your mortgage options, including how to avoid common mortgage mistakes by registering for our free mortgage guidebook: “Five Things You Need to Know before Refinancing Your Mortgage.”
My name is Rob Regehr and I’m a personal finance writer with a chip on my shoulder for banks and brokers that take advantage of my friends and neighbors.
