Interest-only Mortgage Calculator
Thinking about getting an interest-only home loan? Use this free interest-only mortgage calculator to estimate your loan payments.
Is An Interest-Only Loan A Good Fit?
Conventional wisdom tells mortgage holders to try and pay off the principal debt as quickly as they can, along with their interest payments.
"Don't forget to put a note on the check that says payment toward principal," your friends will advise you anytime you have extra money to pay off your mortgage.
Now that you're a responsible adult you finally understand. Chipping away at your principal debt is the right thing to do, and anytime you see that balance go down you feel like you're winning the game.
So why are some people raving about interest-only mortgages, where the borrower pays only the interest payments while the principal debt remains unchanged?
It is something new? Is it a gimmick? Is it a good deal for you?
To answer those questions, you'll need to understand what an interest-only loan means, and you'll need to be honest with yourself in evaluating your financial future. An interest-only mortgage is a tricky and complicated arrangement, but it's definitely an option for funding your new home.
Let's examine the ins and outs of interest-only mortgages to see if it's the best option for you. If you decide on an interest-only mortgage, and you find a good deal with a lender, you may be in for a windfall.
What Is An Interest-Only Mortgage?
An interest-only mortgage is a loan in which the borrower pays only the interest on the principal balance, while the principal stays the same. In the U.S., interest-only mortgages are issued for the first 5 or 10 years of the mortgage.
After that initial 5- or 10-year interest-only period, the borrower can either convert to a traditional amortized mortgage wIth principal and interest payments, or pay off the principal in full.
To put this novel loan in perspective, let's look at a typical interest-only mortgage on a $300,000 mortgage at a 6.5% rate over 30 years, with the first 10 years being the interest-only period.
Let's call this the honeymoon phase because you'll be living in style with affordable monthly payments. You're still facing that daunting principal debt of $300,000 down the road but hey, you're living in style.
During the honeymoon phase, you'll reap the benefits of lower monthly mortgage payments. Just how much an interest-only loan saves you depends on your situation, but it can be figured out easily using an online interest-only mortgage calculator, as in the screen shot above.
In this example, the borrower pays only $1,625 a month as opposed to a monthly payment of $1,896 if it were a traditional mortgage with a fully amortized payment plan (principal + interest). A monthly savings of $271 is the advantage of financing your home with an interest-only mortgage – not bad at all.
Types Of Interest-Only Loans:
- 3/1 ARM Mortgage is fixed rate for the first three years; then the rate changes once a year.
- 5/1 ARM Mortgage is fixed rate for the first five years.
- 7/1 ARM Mortgage is fixed-rate for the first seven years.
- 30-year fixed-rate loans with 10-year interest only period. It's the most common interest-only mortgage.
- Option ARM loans allow you to skip the principal payment and some of the interest payment for several years. The amount of the skipped payments are added onto your loan.
Who Qualifies For An Interest-Only Mortgage?
It's not easy to qualify for an interest-only mortgage because you have to be able to verify your income, which may be sporadic and come from many different sources.
Bankers and mortgage lenders are increasingly tightening the leash for interest-only mortgage loans, and rightly so. Did you notice the housing bubble fiasco a few years back? Interest-only mortgages, taken out by people who bit off more than they could chew, played no small part in the near-collapse of our financial infrastructure. So be prepared to sweat it out with skeptical lenders who want proof that you can handle the terms.
Now is a good time to check your credit score because an interest-only mortgage requires a healthy credit score of at least 680 — 700. Also, any recent blemishes on your credit report will likely kill your chances.
Another pre-requisite for this type of loan is money, money and more money. You will definitely need cash to cover a sizeable down payment. Because of the risk involved to lenders, many insist on a 30 percent down payment for an interest-only mortgage.
Is The Interest-Only Mortgage A Good Fit For You?
It might be, if you're a fiscally responsible person with a lot of disposable income and plans for accruing wealth that are based on past performance or surefire methodology, not wishful thinking. If so, the low starting payments afforded by interest-only loans can make a big difference; it can put you into a dream home that you could not otherwise finance.
However, it can also ruin all your plans and make you lose your slice of the American dream. Like any other form of gambling, there are calculated risks. There are highs and lows, and something called "payment shock" which is akin to sticker shock, and you'll feel it when your first payment comes due after the honeymoon phase.
If your idea of taking a big chance with your money is changing the background design on your checks, interest-only mortgages are not for you.
An interest-free mortgage loan lets you save on your payments for the first part of your obligation. This can put more money in your pocket for saving or investing wisely. Thus, it is an attractive package for earners with sporadic income, like commissioned salesmen, consultants or stock market players.
If you're certain that your salary will increase substantially, or that an investment will pay off handsomely, an interest-only mortgage will give you some breathing room and get you into a bigger home.
It's like playing with fire, and you could get badly burned. It's possible that a sharp turn in the real estate market could put you in a position where you can neither re-finance nor sell your home. It's not uncommon for borrowers who thought they could handle the vagaries of an interest-only mortgage to realize it put a stranglehold on their cash flow and gave them only a lifetime of insurmountable debt.
Weigh your options, be realistic about your future, and choose the mortgage plan that best suits your needs, both in the long run and in the near future.