 Sam
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Joined: 21 May 2005
Posts: 280
Location: CALIFORNIA
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 Posted: Wed Apr 07, 2004 3:44 am Post subject: Interest Only Payment |
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Interest-only payment is a repayment option available with fixed rate mortgages, adjustable rate mortgages (ARMs) and option ARMs. Home loans with such option are termed as interest-only mortgages. The interest-only period in such loans varies from 5 to 7 years during which only payments towards the interest is made and there is no repayment towards the principal.
At the end of the interest-only term, the borrower has the option to start a repayment plan which will include both principal and interest or else he can refinance the existing mortgage with another loan. In case the loan is fully amortized after the interest only period, the monthly payments increase when the interest only period is longer. The borrower also has the option to pay off the loan balance in a lump sum amount. With an interest only option, the interest rate may or may not be lower than that of other mortgages.
For example: John takes a 30 year fixed rate mortgage loan of $100,000 having an interest rate of 5%. Based on a repayment plan covering both interest and principal on a monthly basis, the fully amortizing monthly payment is $532.82. With the rate being fixed, this monthly installment will be sufficient enough to pay off the mortgage loan within the specified time. But Samuel takes the same amount of loan with interest only option. In this case, the monthly payment, that is, interest is $416.67. Therefore, Samuel saves $116.15 while John pays that amount towards the principal.
Benefits of interest-only payment:
- The interest payments are tax-deductible, so it reduces the taxes that are payable. Therefore, borrowers can save a certain amount for other expenses.
- With interest only payments, borrowers can keep aside cash to repay high cost consumer debts which are not tax-deductible.
- Such a payment plan reduces monthly mortgage payments for an initial period of 5 to 7 years and help to form a better financial plan towards other investment.
Interest-only payments in ARM
ARMs and option ARMs with interest-only payments are highly popular. In this case, the interest payments made during the interest only term depend on the interest rate and loan balance. The payments for an Option ARM vary every month with changes in the ARM index that determines the indexed rate on the mortgage.
Interest only payment is a good option for those who wish to earn a lot of money within a short span of time. This kind of a payment scheme helps buyers to go for a home having greater purchase price. They also get the opportunity to invest the amount saved in the interest only period and thus get better returns. |
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