Pros and Cons of Interest-Only Loans

By JJ Singh
LoanPage Columnist

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In the last few years, interest only mortgages have become increasingly trendy. On the surface they look like great alternatives, but there are risks you should be aware of.

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These new home loans are structured so that during the first few years you do not pay any principle, only interest. Here's a pro/con list to help you sort it out.

Pros

» Savings. You can save hundreds of dollars per month (depending on the size of your mortgage) during those first few years.
» Make the Highest Bid. You can outbid another buyer for a home, knowing that your mortgage payment for the first couple of years will be affordable.
» Return on Investment. If you plan to sell the house soon and take advantage of a rising housing market, you can get a much larger return on your investment (sale price to payment ratio).

Cons

» Long Term Interest Payments. If you keep the home for an extended period of time, you will be paying much more interest in the long run.
» Housing Market Risks. If you plan to sell soon and the housing market drops or stays the same, you could lose quite a bit of money.
» APR Increase. If your interest rate is floating (most are), the rate will likely increase once you start paying off the principle.

The interest only mortgage is an interesting alternative, but it should be used with caution. Your first task should be to determine what your priorities are when buying a home. If you'd like to be there for the long haul, it's probably not your best bet. Conversely, if you're confident the market will do well and it's a short-term investment, this type of new home loan can net you a huge return.

About the Author

JJ Singh is a loan consultant who has mortgaged his life away to the micro finance industry in New York City. He holds a bachelor's degree in Economics from the University of Virginia.

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