Posted on 11th July 2015

Theyre Back! But Should you Take out an Interest-only Mortgage?

Martin Williamson, Head of Residential Property

Interest-only mortgages have been widely blamed for inflating the housing market ahead of the 2007 financial crisis.

Buyers desperate to get onto the property ladder but unable to meet the cost of repayment mortgages opted for deals which allowed them to only pay off the interest each month and not the capital.

Interest-only deals were also popular with borrowers who wanted more expensive homes than they would have been able to afford if they opted for a repayment mortgage.

Instead, lenders generally worked on the basis that the money would be repaid when the property was sold at the end of the mortgage term.

But, interest-only mortgages fell out of favour following the credit crunch. They were seen as having pushed up property prices by encouraging buyers to opt for homes they would not otherwise have been able to afford.

Interest-only loans were also often condemned as they carry significantly higher risks in the long-term because homeowners could see large future hikes in their monthly payments.

Before the banking crisis hit, around 75 lenders were offering interest-only loans, but that number slumped to just 12 after the credit crunch, with many of the bigger lenders publicly announcing they were no longer selling them.

Now, however, the pendulum has started to swing back, with more than 20 lenders currently prepared to offer interest-only loans. However, conditions have changed. At one point, lenders were prepared to hand out 100% interest-only loans.

Now, the maximum loan to value youre likely to get is 75%, so youll have to save up a 25% deposit to be able to take advantage of one. Given that banks now have 95% repayment options available, its likely that interest only isnt the best option for first-time buyers.

So, could they be for you? Well, most people in a position to repay the capital in their mortgage choose to do so. The security of knowing your mortgage will be paid off in a certain number of years is appealing.

But, interest only can be an alternative for those who want more freedom when it comes to how much they pay out each month.

If youre self-employed, or arent always paid the same each month, then making lower monthly mortgage payments could help you to balance your finances.

Switching to interest only can also help for those with joint mortgages when one person is on maternity leave, retraining or taking a career break.

Interest only could also benefit those who know they will be handed large future bonuses or who have sizeable pension pots which can be used to repay the mortgage.

However, while interest-only mortgages do have their place, you will need to have a plan, which is acceptable to the lender, to pay off the capital at the end of the term.

If your plan is to downsize at the end of your mortgage term, then there must realistically be enough equity in your property to allow you to do so.

A lender will not be convinced by hopes that you will come into a large inheritance or win the lottery.

Martin Williamson is Head of Residential Property at Latimer Hinks Solicitors in Darlington. Latimer Hinks has a team of around 40 people serving private and corporate clients. For further information: www.latimerhinks.co.uk or call 01325 341500.

Please note: This article is intended as guidance only and does not constitute advice, financial or otherwise.

For further information please contact Martin William