Interest Only Loans
What Are Interest-Only Loans?
When you take out a traditional loan, the monthly payments that you make go toward both your loan balance and interest costs. If you keep up with interest charges, you will gradually pay down the debt you owe.
An interest-only loan is where your payments only go toward the interest on the loan. None of the money you pay goes toward your overall loan balance or principal. It allows people to have lower monthly due amounts over a fixed period.
You do need to pay the entire loan off, either by making a lump sum payment, or you can increase your monthly payments to include money that will go toward the principal.
How Do Interest-Only Loans Work?
Interest-only loans typically cost less monthly than a traditional loan structure. The payments are less because none of what you pay goes toward paying off the principal on the loan. The loan is not amortized, which means that you do not pay down any of the original loan amount.
The monthly payment for an interest-only loan can be calculated by multiplying the loan amount by the interest rate you receive. Then, you divide that sum by 12 months.
Interest-only loans are not meant to last forever. There are several ways that you can repay them according to the structure of your loan. Some options are:
- You can convert to an amortizing loan to begin to pay off the principals
- Making a lump sum or balloon payment at the end of the specified loan period
- Pay it off by refinancing and getting another loan.
Compare Interest-Only Loans Rates
There are many different types of non-QM loans, one of which is an interest-only loan. What is an interest-only loan? It is a loan where you only have to pay down the interest. Interest-only loan rates are typically a bit higher than your traditional loans. The reason that interest-only loan rates tend to be higher is that they involve more risk. But the higher interest-only loan rates are a great resource to use when a traditional loan will not work for you.
By taking out an interest-only loan, you can purchase the home of your dreams now and then start to pay it down later. It is a good tool to ensure that you don’t miss the opportunity of being a homeowner in the here and now. There will be a time in the future to start to pay down the loan, but an interest-only loan just helps you realize your dream now!
Advantages of Interest-Only Loans
- You can purchase more expensive property than you might otherwise be able to.
- Costs tend to be lower
- It frees up your cash flow
Disadvantages of Interest-Only Loans
- Risk of being upside down on your loan.
- They are only meant to be temporary
- Negative amortization.
- No equity.
Have a question regarding interest-only loans not addressed above? Don't hesitate to get in touch.
The monthly payment for an interest-only loan can be calculated by multiplying the loan amount by the interest rate you receive. Then, you divide that sum by 12 months.
Interest-only loans are not meant to last forever. There are several ways that you can repay them according to the structure of your loan. Some options are:
- You can convert to an amortizing loan to begin to pay off the principals
- Making a lump sum or balloon payment at the end of the specified loan period
- Pay it off by refinancing and getting another loan.
Interest-Only Mortgage Loan FAQ
An interest-only loan is a type of mortgage where, for a defined initial period, your monthly payments cover only the interest on the loan—not the principal balance. This keeps payments lower during the early years of your loan.
Interest-only loans typically have two phases:
- An interest-only period (often 5–10 years) where you pay only interest, and
- The principal repayment phase is when you begin paying down the loan balance and interest.
Borrowers may choose an interest-only loan if they want lower monthly payments up front to improve cash flow, invest in other opportunities, or plan to sell or refinance before the principal repayment phase begins.
They’re best suited for borrowers with a clear short-term plan—such as expecting increased income, selling the home before the interest-only period ends, or strategically using savings. They are not ideal for borrowers who want to build equity quickly or who are unsure about future finances.
During the interest-only period, monthly payments are significantly lower than a traditional principal + interest mortgage because you’re not reducing the loan balance. After that period, payments increase once principal repayment starts.
Not automatically. Because payments during the interest-only period don’t reduce the loan principal, you won’t build equity through payments alone—though you can build equity if the home appreciates.
The most significant risks include:
- Payment shock when principal payments begin, and monthly costs rise,
- Higher total interest paid over the life of the loan, and
- Greater exposure if property values fall.
Once the interest-only period expires, your monthly payment will adjust to include both principal and interest, often resulting in a significant payment increase. You can also choose to refinance or pay off the loan if your financial situation makes sense.
Lenders may require higher credit scores, larger down payments, and proof of ability to repay, because interest-only loans carry more risk than traditional mortgages.
If your loan terms allow it. Making extra principal payments during the interest-only period can reduce your overall debt and future interest costs. Always check with your lender to confirm how extra payments are applied.
Depending on the loan program and borrower qualifications, interest-only loans may be available for second homes and certain investment properties. Eligibility varies based on factors like credit profile, income structure, and property type.
An interest-only loan in Charleston, as well as the entire state of South Carolina, can make sense if you have a clear financial strategy, such as expected income growth, plans to sell or refinance, or a need to prioritize short-term cash flow. Speaking with a mortgage professional can help determine whether this loan structure aligns with your long-term goals and risk tolerance.