Interest-only mortgages?

JenE_2

Hi
I would in the past have run a mile from even the thought of an interest-only mortgage, but a very good friend of mine (so I'm sure she's telling me straight how it is), has just bought a house with her husband with an interest-only mortgage. Her rationale is that on a monthly basis they will pay the cost of a repayment mortgage into it, thereby reducing the capital quicker than if they'd had a repayment mortgage. She is also in an industry that pays bonuses and will put her bonus against the mortgage each year.

This doesn't sound like an unreasonable plan and I'm considering it for us when we buy (hopefully soon) our 'forever' home. I'm hoping at some stage to have kids, so during my maternity leave we could perhaps reduce our payments.

What's wrong with it? What would we have to prove to the bank (ie would we have to have a plan already in place to say how we'll pay back the capital)? Any other comments?

Thanks all!

shortchanged_2

The problem with IO mortgages is that they can encourage many people to stretch themselves financially. What happens if your financial circumstances change in the future and you are no longer able to put extra money aside? You can be left with a rather large debt with not enough savings to pay it off.

_Andy_

Depending on the LTV but majority of lenders won't accept that as a repayment vehicle (quite rightly).

beecher2

Her rationale is that on a monthly basis they will pay the cost of a repayment mortgage into it, thereby reducing the capital quicker than if they'd had a repayment mortgage. .

I don't get how paying the cost of a repayment mortgage would reduce the capital any quicker than having a repayment mortgage - surely the same amount will be coming off the amount owing.

I'm sure this could work for some people, but it seems more sensible to initially overpay your mortgage, or save up for maternity breaks. The temptation would always be to pay only interest for a few months because of the 'need' for a new car/holiday/kitchen.

You'd have to have some sort of plan in place, and the lender would have to okay it.

Dave_PiFS

Her rationale is that on a monthly basis they will pay the cost of a repayment mortgage into it, thereby reducing the capital quicker than if they'd had a repayment mortgage

Assuming interest is calculated on daily or monthly basis there would be no difference in the term if the same monthly amount is paid. If interest was on an annual basis she could actually be worse off than a repayment mortgage.

The FSA is not keen on Interest only loans and most lenders will only lend if there is a specific repayment vehicle in place (pension, investment, endowment etc) and some lender will limit the perentage of the loan allowed on IO.

The Halifax have even introduced different interest rates for interest only(higher than repayment)!!

getmore4less

JenE wrote: »

Her rationale is that on a monthly basis they will pay the cost of a repayment mortgage into it, thereby reducing the capital quicker than if they'd had a repayment mortgage.

Get her to explain how this works because it should work out the same.

Evilm

With a repayment mortgage you are always paying the debt down rather than with the interest only where you will have to make the effort to pay more off over the standard monthly payment taken by direct debit.

Honestly we started out with our current mortgage "promising" to put in so much extra money each year from savings etc but we are just not managing it (We have a 25% Repayment, 75% Interest only mortgage for less than 50% of the house value). It hasn't helped that I have spent the last 8 months unemployed but even still I know we need to be stricter with ourselves.

kwaks

I have an interest only mortgage, I changed it from repayment a couple years ago. It works great for me and allows me to pay extra if and when I want, Essentially I see it as a cheap way to rent whilst still gaining equity.

opinions4u

kwaks wrote: »

I have an interest only mortgage, I changed it from repayment a couple years ago. It works great for me and allows me to pay extra if and when I want, Essentially I see it as a cheap way to rent whilst still gaining equity.

And your property was worth what in 2008?

And what today?

CloudCuckooLand

JenE wrote: »

Her rationale is that on a monthly basis they will pay the cost of a repayment mortgage into it, thereby reducing the capital quicker than if they'd had a repayment mortgage.

Nonsense. If you pay the same amount that you would have paid for a repayment mortgage, you get exactly the same effect.

IO was widely used when endowments were de rigeur.

To have IO without an alternative repayment vehicle in place is, in my opinion, madness.

Having a plan in place may well cost much the same as repayment, anyway.

When a bonus has to go towards a new car, new boiler, new child, redundancy - life getting in the way stuff - your friend will not have matched repayment, leading to a risk of going into retirement with a massive shortfall - which is fraught with re-mortgage issues, due to falling income etc.

kwaks wrote: »

allows me to pay extra if and when I want...

That's ok, as long as you keep an eye on it. If you go a couple, maybe 5 years, with limited extra payments, you will come to a point - perhaps close to retirement - when you simply haven't paid enough to be close to finishing your mortgage, when you needed to be.

JenE_2

Thanks for all the replies - you're confirming my original view of IO

JenE wrote: »

Her rationale is that on a monthly basis they will pay the cost of a repayment mortgage into it, thereby reducing the capital quicker than if they'd had a repayment mortgage.

My understanding was that with a repayment the monthly payment in the early years is almost all interest, very little capital?
What I had in my head was numbers along the lines of:
Repayment (say) £1600/month of which about £1400 is interest
IO at £1200/month, so paying £1600 pays off twice as much capital
Am I way out?

Totally understand the need for discipline in paying it off and I am pretty good at that, but hubby less so!