Covering mortgage payments can be challenging, especially if you’re still in school or you’re starting out in your career and have a relatively low salary. If you’re strapped for cash now, but you expect to earn more in the future, you might want to consider an interest-only mortgage.
How Does an Interest-Only Mortgage Work?
With a typical home loan, you’ll pay a portion of your principal and interest each month. With an interest-only mortgage, you’ll only pay interest for the first several years. That will keep your monthly payments low, but you won’t pay off any of the principal during that time, unless you choose to make extra payments.
Interest-only loans can be structured in different ways. After the interest-only period ends, you might have to start making higher monthly payments that include both interest and principal, or you might have to pay off the principal in one lump sum.
An interest-only mortgage is usually a type of adjustable-rate loan with a fixed interest rate for the first several years. After that, the interest rate can go up or down.
You’ll have to meet strict guidelines to qualify for an interest-only mortgage. You’ll need a higher down payment and credit score and a lower debt-to-income ratio than lenders typically require for other types of loans.
When Can an Interest-Only Mortgage Be a Good Idea?
An interest-only loan might be right for you if you’re confident that your income will rise significantly in the future. Keeping your mortgage payments down for several years can give you financial breathing room and the ability to become a homeowner while you advance in your career.
Why Might an Interest-Only Mortgage Be a Mistake?
Taking out an interest-only loan is risky. When the interest-only period comes to an end, your monthly payments will skyrocket, or you’ll be expected to pay a large sum of money all at once.
You’ll have to plan carefully to make an interest-only mortgage work. If you’re not disciplined, taking out an interest-only loan can be a recipe for a financial disaster.
Even if you are disciplined, life might not turn out the way you hope or expect. You might lose your job or be unable to work due to poor health or another reason.
If you can’t cover your mortgage payments, you might be able to sell the house and pay off the balance. If that’s not possible and you default on the loan, you can lose your home and see your credit score take a major hit.
Find the Type of Loan That’s Right for You
Low housing payments can seem appealing, especially when you have a limited income, but an interest-only mortgage can leave you in a financial bind if things don’t go according to plan. Research different types of home loans, get quotes and figure out which will work best for you, both now and in the future.
