Is Interest Only the way to go?

lovetobeloaded · 15 November 2006 at 1:21PM

A guy at work recently gave me the following advice, although he is not a moneysaver, so I wanted to check it out to see what you think...

Take out an interest only mortgage so your monthly payments are lower (enabling me to pay more off other more urgent debts)

Stay in your house for a long time, at least until the value has increased significantly (hubby and me have a 3 bed detached, no kids yet but planning, nice area, no plans to move)

If and when you move, sell the house and simply pay back the initial amount borrowed (in my case £125k, house now worth £170+), from the equity.

Knowing the £125k was sitting there doesn't scare me too much because I can't envisage needing to repay it any time soon.

The cost of inflation and house price rises also mean that the £125k will seem a lot smaller in say, 10 years time. The same way a 60K mortgage would do now.

Is this too easy? :cool:

Appreciate any comments.

nrsql · 15 November 2006 at 2:10PM

That's all reasonable - I posted about this when the 52 year mortgages came out.

You are taking a risk though
House prices may fall rather than rise - agreed they will probably rise of the long term but will it be quick enoough.

Inflation may not happen as quickly as you thing or maybe deflation. You are worried obout your increase in wages rather than inflation but they are probably connected.

If you aren't on a long term fixed mortgage interest rate rises may mean that you are unable to service the debt forcing a sale after a house price fall leaving you with no house and a large debt to make up the shortfall.

In the recent past this plan would have probably been fijne. At the moment I feel the market is a bit artificial so might carry extra risk.

Acc72 · 15 November 2006 at 2:19PM

Looking back it is easy - just pay the interest and take advantage of the capital growth.

However, only you can decide if you believe that house prices will continue to grow at significant rates in the future.

I am surprised at the number of people who are looking at interest only mortgages - it is just the same as renting (but with additional costs and responsibilities) and you hope that the capital value will increase to give you a "profit".

At the moment you could probably buy a £200k property for £800 per month on an interest only.

But you could possibly rent the same place for say £600 per month - saving yourself £2,400 per year (not to mention initial purchase costs and stamp duty etc. (£7k ? assuming you are not selling a house) plus ongoing costs of other general repairs and maintenance - not to mention the hassle and reduced flexibility of ownership).

So ..... if you rented the £200k property, you could save up to say £20k compared to buying over the first 3 years.

If you think the value of the property would increase by more than £20k over this period then buy, if not then rent !!

tomstickland · 15 November 2006 at 2:23PM

Inflation might erode the capital. But then again, it will also erode the gains made in house prices.

If you repay some of the capital then the interest payments will fall over time too, so you'll be paying less to rent the money.

lovetobeloaded · 15 November 2006 at 2:35PM

Thanks for the advice.

I am not very mortgage savvy but you all seem to know what you are talking about!

I am on normal repayment at the moment, suppose I was just looking for a quick fix but there isn't one is there?

I will probably try to include some overpaying into my grand debt free plans, when I get around to doing them.

Cheers. :beer:

nrsql · 15 November 2006 at 2:56PM

That's a bit of a different question.
You already have the house so are already taking the risk of house price fluctuations and rental comparisons don't come into it.

The question is - are you better off reducing the mortgage amount or not.
This is the question addressed here
http://forums.moneysavingexpert.com/showthread.html?t=301852

The idea is that the mortgage repayments should be compared with your income and expenses. You probably don't have a lot of money left over in early working life and it increases a lot towards middle age.
So maximise the amount available by using interest only and pay more off later.

The problem comes if your earnings don't increase by a lot or interest rates go up.

zag2me · 15 November 2006 at 3:37PM

Its always better to pay off your debts than just to pay the interest

In the long term you will be better off. This also applies to mortgages

melt71 · 15 November 2006 at 3:57PM

I have an interest only mortgage, although I have to say it wasn't by choice. I bought my house as part of my divorce settlement and a self cert interest only mortgage was the only one that I could get

I pay £493 per month on a fixed rate (until Mar 2008) and my mortgage is £108k. However, the house is actually worth about £170k+ in todays market. As previous posters have said, that could drop but will probably eventually go up (a lot! by the time my 9 yr old daughter wants to buy a house it will be about a zillion quid! :eek:) I also have a £9 a month death policy which would pay off the mortgage if I die.

I'm generally quite good with money and I have no debts except my mortgage.

I started a plan to put £3000 per year away in an account that I can't touch, I've done this for the past couple of years but I have just found out that my ex will not be paying maintenance for a while (made redundant) so my finances are going to be very tight for the next few months and I won't be saving any further until this resolves itself. I've cut right down on silly purchases and I joined the OS board to get ideas on how to save money on food budgets etc. I also put my daughter's child benefit into a 'child benefit account' which gives about 7% interest. I only started it recently but it already has a few hundred quid in it - you can't add any more than the basic child benefit which they pay direct into the account and I dont think you can withdraw any (or it reverts to a standard savings a/c).

In this area I looked into renting and I couldn't even afford a basic 1 bed flat!! So buying my house was the only real option for me. I wouldn't have chosen this option for a house that didn't have any existing equity in though

nrsql · 15 November 2006 at 7:29PM

zag2me wrote:

Its always better to pay off your debts than just to pay the interest In the long term you will be better off. This also applies to mortgages

Interesting though possibly naive statement.
Try saying that to someone who took a mortgage interest only and invested the money to accumulate 10% per year (assuming low interest rates).
The endowment mortgage industry was based on it being better not to pay off any of the mortgage as the money could work harder elsewhere - ok it turned out to be a problem but for a while it worked and the principle was sound.

Not saying it is always a good idea but that's what investing is all about.
You think you can do better than a savings account so why shouldn't you do better than the mortgage cost.
Note - I believe in the theory but don't put it in to practise. Probably why I will never be rich and hopefully never destitute.

Rick62 · 15 November 2006 at 9:37PM

Financial priority should be to pay off your debts, unless you still want a mortgage when you retire and to be destitute.

If you could reasonable easily make, say, 10% return somewhere else then the banks would all be doing that, rather than lending to us.

You should however pay your most expensive debts first. So if you have other more expensive loans it could make sense to have an interest only mortgage while you pay off the other debts, so long as you are disciplined enough. Then switch to repayment and pay it off. The debt does not go away on its own

Rick62 · 15 November 2006 at 9:43PM

Can I just add, don't listen to nrsql, he is talking dangerous nonesense. There are a very few people who can consistantly and risk free beat the markets, like Warren Buffet. Get debts under control before you start 'investing' (other than say contributing to pensions and other safe, tax efficient vehicles).

If you want to invest a bit, because you enjoy it and want to learn more about investing, fine, but don't do it at the expense of paying your loans and mortgage.

Is Interest Only the way to go?

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