With an interest-only loan, a borrower's payments consist only of the interest on the mortgage, not the principal, over a fixed term. As a result, these loans offer low payments during the initial interest-only term. However, at the end of this term, the borrower must pay off the principal and any additional interest in either a lump sum or in larger regular payments.

Interest-only loans allow borrowers to purchase a more expensive home than they could otherwise afford and maintain increased cash flow compared to fully amortized mortgages. However, since much larger payments are required when the interest-only period ends, borrowers should be confident that their income will increase significantly.