• Skip to main content
  • Skip to primary sidebar
  • Skip to footer
  • Budgeting / Debt Relief
  • Home / Health / Auto
  • Credit Cards & Scores
  • Tax Tips
  • Kids / Students & Money
  • More
    • Electronics & Gadgets
    • Health & Beauty
    • Hobbies & Crafts
    • Home & Garden
    • Jobs & Money
    • Outdoor Fun
    • Travel

Personal Finance Guide

Real People. Real Experiences. Real Helpful.

a Fun Times Guide site

search

Home » Jobs & Money » Home / Health / Auto » Interest Only Mortgages – Why They’re Not The Best Choice For Everyone

Interest Only Mortgages – Why They’re Not The Best Choice For Everyone

Pin
Share
Tweet

We write about products and services that we use. This page may contain affiliate links for which we receive a commission.


Interest only loans have become increasingly more popular over the last several years. This type of mortgage allows the borrower to pay “interest only” as their mortgage payment.

The result is usually a lower mortgage payment, because the borrower is not paying anything towards the principle on the loan. This means that if your original loan was $200,000 after five years of interest only payments you still owe $200,000.

The question we will examine today is whether or not this type of loan is a good option for the consumer.

Proceed With Caution

First, let me start by saying in my opinion, if you are using an interest only loan to afford more house you are placing yourself in a dangerous situation (financially speaking).

More times than not, people will use an interest only loan because they cannot afford the 30 year fixed payment on the home they are considering. Approaching home ownership and your finances in this way will likely result in carrying debt for your entire life.

As responsible financial consumers our goal should be to eliminate our debt at some point in our life.

It Works For Some Homeowners

So how could an interest only loan actually help you get your home paid off more quickly than a conventional mortgage?

The advantage to the interest only loan is the low payment. This frees up extra money to save outside of the mortgage. If you were able to invest this extra money in some type of side investment, you would be growing an account that could be used to pay the remaining principle off in a lump sum at some point in the future.

Let’s take a look at how I manage my mortgage. I calculated what a 15 year fixed payment would be on my home mortgage. I then calculated what an interest only payment would be on that same amount. I took the difference between these two numbers which became my side investment.

I took out an interest only loan and presently save the difference in a side investment. Does this make sense? The short answer is, it depends. It depends on what interest rate you are borrowing the money at, and what interest rate you are earning on your side investment.

I am borrowing the money at 5%. After my tax write-off for the interest portion (which is all of it) my real borrowing rate is 3.75%. Remember, the government gives us a tax break on the interest we pay on a mortgage for our primary residence.

If I am able to earn more than 3.75% in my “side investment” then I am coming out ahead by using an interest only mortgage and investing the difference. If I am earning less than 3.75% then I am better off putting those extra payments onto the principle of the home loan.

A Few Things To Consider

My interest rate is only locked for five years. That means that at some point in the future my rate will change and I will have to refinance. This presents some risk, given that interest rates could be significantly higher in the future.

Also, the question should be raised – Am I better off locking in a low interest rate for 30 years on a conventional mortgage if interest rates are at historical lows?

What if the opposite were true? If interest rates are at historical highs, should I be locking long term or shorter term?

In the latter, if interest rates are high and we expect them to drop in the future it may be wise to lock for a shorter period such as 3-5 years and then lock longer terms once rates drop.

The bottom line is that interest only loans can be an effective tool in managing and even paying off your home mortgage. However, they are often abused and used for the wrong reason.

I recommend that you DO NOT take out an interest only loan unless you are simultaneously working a plan to pay off the principle on that same loan. Logically work through these types of questions before taking out a loan.

Do not simply take a mortgage officer’s “word for it.” Your gut instincts will often steer you in the right direction.

David
David

I’m a Financial Consultant and Personal Financial Representative with experience in financial analysis, strategic planning, presenting, & financial advisory services.

Pin
Share
Tweet

Filed Under: Home / Health / Auto, Jobs & Money Tagged With: loans

Ezoicreport this ad

Primary Sidebar

Ezoicreport this ad

About Us

LynnetteWith input from Financial Advisors, (a Tax Accountant and an Investment Manager), I share helpful tips regarding money and finances -- including debt relief, insurance, budgeting, and investing for retirement. My goal is to help you save more, spend less, and invest for the future by sharing honest, tried & true budgeting tips and tools. When I'm not saving for the future and helping others save for theirs, you can find me at the corner of Good News & Fun Times as publisher of The Fun Times Guide (32 fun & helpful websites).

Lynnette: View My Blog Posts

AndreaI have been a certified tightwad striving for financial freedom since I became pregnant with my first child -- and I decided to find a way to stay home with him full-time. I enjoy sharing my personal experiences in my journey back to financial health and planning for a future -- which will include sending 2 kids to college and early retirement.

Andrea: View My Blog Posts
Ezoicreport this ad

Top Searches

auto insurance bankruptcy banks books car buying charities childcare Christmas clothing and shoes college consignment and thrift stores credit cards and gift cards credit rating death and dying debt relief frugal tips gas and car costs gifts grocery shopping health insurance home buying homeowners insurance identity theft investments jobs life insurance loans monthly bills and utilities office items and housewares online shopping organizing tips phone restaurants retirement saving money selling things senior living Spousal issues stocks student loans and financial aid tax credits and deductions Taxes 101 tax updates today's economy traffic tickets
Ezoicreport this ad

Footer

  • Facebook
  • Pinterest
  • RSS
  • Twitter
Fun Times Guide logo
Shop Our Favorite Items

Copyright © 2004-2021 The Fun Times Guide | Privacy Policy | About | Contact | Sitemap