For many people, when purchasing a home, finances may be limited. There are several options for people in this situation, and one is the interest-only mortgage. With a regular mortgage, the scheduled monthly mortgage payment goes towards repaying the principal (the original size of the loan) as well as the interest (a financial charge for using the lender's money). In an interest-only mortgage, the monthly payment only repays the interest. This option to pay interest only lasts for a particular period of time, and ranges from a few months to a few years.
The benefits of an interest-only mortgage are that your monthly payments will usually be lower than a regular fixed-rate or adjustable-rate mortgage during the interest-only period. However, it is recommended that during this interest-only period, if you can afford to pay more than just interest, you should. That way, the principal amount owed will decrease, and since you are also paying interest, the total loan amount goes down. Additionally, you may be able to afford a larger or more luxurious house with an interest-only mortgage, since the payments will be smaller in the short-term. Another feature that may be available with your interest-only mortgage is that whenever you make an "extra" payment in order to reduce your principal, your next month's payment may be less. This is only available in interest-only mortgages, and not available in all circumstances.
Since interest-only mortgages are riskier to the lender, there are some drawbacks to this type of mortgage. For starters, lenders usually require a higher interest rate for interest-only mortgages. Furthermore, the interest rate quoted may or may not be fixed during the interest-only period. Most importantly, with all interest-only mortgages, the time will come when the interest-only period will end, and borrowers need to plan ahead and realize that their payments will undoubtedly go up at some point. Caution must be taken, therefore, when getting an interest-only loan, as borrower's will need to consider various situations in the future regarding their financial status, and plan accordingly.