What is an interest-only mortgage?

When you take out an interest-only mortgage, your repayments will be lower but there are some major pitfalls to beware of. Plus, they can be hard to get. So who are they best suited to and how do you get one? We take a look.

Angela Kerr Director, Editor

Getting an interest-only mortgage means lower monthly payments but to get one you’ll need to show you have a repayment plan in place to pay off your mortgage at the end of the term. We look at when an interest-only mortgage may be suitable, the repayment options available to you – and what to do if you can’t pay off your mortgage.

What is an interest-only mortgage?

If you take out an interest-only mortgage, your monthly repayments will only cover the interest charges on your loan, you won’t pay off any of the capital you have borrowed. This means your mortgage payments will be lower – but at the end of the mortgage term you will still owe the original amount you borrowed which you will need to repay. So you’ll need to have a plan from the outset of how you will repay the loan – read on for more on this.

And there are different types of interest-only mortgage. They can be:

• Fixed – This means the rate of interest and your repayments stay the same.
• Variable – This means the rate of interest can change, therefore repayments can go up or down.

What’s the difference between interest-only and repayment mortgages?

Repayment mortgages are different because your mortgage payments cover not only the interest on the loan but you’ll also be chipping away at the capital you’ve borrowed too. And assuming you make all your repayments, you will have paid off your loan by the end of the term. However, your mortgage payments will be higher.

• For example, if you borrow £150,000 on an interest-only basis at an interest rate of 4%, your mortgage payments would be £500. But you’ll need to repay £150,000 at the end of the term.
• By comparison, on a repayment mortgage over 25 years, mortgage repayments would be £791 a month.

Repaying an interest-only mortgage

So how do you pay off the lump sum at the end of your interest-only mortgage term? These ‘repayment vehicles’ include: 

• Savings. You may choose to save into ISAs or other types of savings account and use this to pay off the lump sum.
• Stocks and shares. Another alternative is through long term investing such as a Stocks and Shares ISAs. Although as with any investment, the value of it could go up or down.
• Other assets. If you own assets like property, you may choose to sell and use the cash to pay off your mortgage. 
• Pensions. You may be able to repay what you owe by withdrawing from one or more pensions at the end of the term. But make sure you take independent financial advice before doing this.

The lender will need to see evidence that you have one or more of these options in place to pay off the mortgage balance before they’ll accept your application. However, it’s important to review your plan regularly to ensure it’s on track.

Interest-only mortgage calculator

To instantly see a repayment mortgage vs interest only mortgage comparison, use our handy interest-only repayment calculator. And for advice tailored to your circumstances, speak to a fee-free mortgage broker who will go through your mortgage options and explain any costs and fees too.

The history of interest-only mortgages

Before the 2008 financial crisis, interest-only lending soared, with borrowers able to take out this type of mortgage without showing how the debt would be paid off. After the crash, mortgage lenders tightened the lending criteria around interest-only mortgages and it’s now much harder to get one. Lenders usually require a large deposit and an approved repayment vehicle in place.

According to the latest UK Finance statistics, just over 754,000 interest only mortgages were outstanding at the end of 2021, 17% fewer than in 2020. However, with mortgage rates in 2023 much higher than the historic lows we’ve seen in recent years, they may become more appealing. Borrowers are attracted to interest-only deals rather than repayment mortgages as it lowers the monthly cost. Others opt to invest the cash they would have used for repayments on the loan, with the aim of invested funds growing more than the value of the loan itself. Some borrowers also use this tactic to repay their loan sooner than with a traditional mortgage.

However, there are obvious risks with this strategy. So if you are considering whether an interest-only mortgage is a good idea so that you can free up cash to invest (with a view to earning more to repay your mortgage later), it is a good idea to get independent financial advice first.

Buy to let interest-only mortgages

An exception to the rule are Buy to Let mortgages, as the majority of these are interest-only deals. Lower monthly repayments are attractive to many landlords and if they need to sell the property at the end of the term to pay off the mortgage (hopefully making a profit in doing so) they will be selling an asset rather than their home.

What is the interest-only mortgage criteria?

Lenders’ interest-only mortgage criteria is stricter: some lenders require a high minimum salary, they’ll need to see evidence you’ll be able to pay off the loan at the end of the term and they’ll often want a large deposit too. But each lender has its own lending criteria so if you’re interested in finding out more about interest-only mortgages it’s a good idea to speak to a fee-free mortgage broker. They’ll discuss your circumstances and be able to advise you on the lenders that may be most likely to accept your application.

How do I get an interest-only mortgage? 

The best way to get an interest-only mortgage is to speak to a fee-free mortgage broker. Not only will they be able to match you with a lender that’s most likely to accept your application, they’ll shop around for the best mortgage deal for you too. They work with over 90 different mortgage lenders so can compare a whole range of mortgage deals. You can speak to them today or start the process online.

How much do I have to earn to get an interest-only mortgage? 

When you take out a repayment mortgage, the amount you can borrow will typically be a multiple of your salary. But with an interest-only mortgage, some lenders have a high minimum individual or household income threshold that you’ll need to meet. And there are other factors that come into play including your individual circumstances and the lender’s criteria.

Interest-only mortgages – can I make a joint application?

Yes, however you may find you need a higher joint income than if you apply on your own.

What size of deposit will I need for an interest-only mortgage?

While this will vary by lender, for an interest-only mortgage you’ll usually need a bigger deposit than you would for a repayment mortgage.

Pros and cons of an interest-only mortgage

The advantages of an interest-only mortgage

• Lower monthly payments: As we explain above, interest-only mortgage repayments are lower because you’re only paying the interest charges on your mortgage loan

• Appealing to landlords: Interest-only Buy to Let mortgages are common. Profits can be put aside to repay the capital and if the property needs to be sold at the end of the term it won’t mean losing your house.

• Your money could work harder: By putting the money you save on mortgage payments into other investments you may get a higher return and be able to repay the mortgage faster. Although this is a high risk route and it is a good idea to get independent financial advice first.

What are the disadvantages of an interest-only mortgage?

• Can be more expensive overall: When you take out an interest-only mortgage, the amount of capital you owe doesn’t reduce over time and you’ll have to pay interest on the whole amount throughout the term. So it’s more likely to be more expensive overall than a repayment mortgage.
• It’s high risk: Lenders view interest-only mortgages as high risk so many lenders don’t offer them anymore.
• You could lose your house: What if you can’t afford to pay off the lump sum at the end of the term? For example if the repayment vehicle you have put in place doesn’t perform as well as you had hoped. This means you might have to sell your home.

What to do if you have an interest-only mortgage

If you have an interest-only mortgage already, check your paperwork or speak to your existing mortgage lender to find out when it is due to end and what you owe.

• Once you have all the information, review your payment plan. If you have significant equity in your property and a repayment vehicle that is working well, then you are in a good position. But if you don’t, you may find it either difficult to remortgage when your existing deal comes to an end or that you are unable to make the capital repayment and risk losing your home.
• If you don’t have a payment plan, put one in place as soon as possible. It‘s a good idea to get independent financial advice.

• Check if you can save by remortgaging onto a better mortgage rate., you may consider switching to a repayment mortgage

How to get out of an interest-only mortgage – your options

If you’re concerned about being able to pay off your interest-only mortgage at the end of the term you should contact your lender without delay to discuss your options. These could include: 

• Switching to a repayment mortgage If your current interest-only deal is coming to an end or you are worried you won’t save enough to repay it, then consider moving to a repayment mortgage. It will mean higher monthly repayments but will also mean you are paying back some of the capital as well as the interest each month. If the payments are likely to be too high, you may consider switching to a part-interest, part-repayment deal. Speak to our award-winning fee-free mortgage partners at L&C to review your options
• Is downsizing is an option? Any profit generated from downsizing could help make repayments on a mortgage more manageable. However, you’ll need to consider the costs of moving and negative equity which may rule this out as an option. Find out more by reading our guide Should I downsize?
• Extending your mortgage term This may give you enough time to save the money you need to pay off the balance. However bear in mind you may not be able to extend your mortgage term, for example after a particular age.

Interest-only mortgages: Options if you’re over 50

There may be different options open to you if you are over the age of fifty. These include:

• A retirement interest-only mortgage. While many major lenders will lend into retirement, they often have an upper age cap, with the majority asking for loans to be repaid before your 70^th or 75^th birthday. In this circumstance, a retirement interest-only mortgage may be a viable option. This is a home loan designed for older borrowers who may struggle to get a traditional mortgage due to their age. See more guidance on mortgages for over 50s.

• Equity release schemes: These enable older homeowners to tap into the value of their property without the need to sell up and move out. This equity can be used to pay down what you owe. However, do seek advice on any risks involved. See our guide Is equity release right for me?

What happens at the end of an interest-only mortgage?

Typically, your lender will contact you around a year before the end of your term, and again at six months to go and just before the end of the term. You should ask for a redemption notice or statement, this will set out how much you need to pay. And providing your repayment plan has stayed on track you should have enough money to pay off the outstanding mortgage at the end of its term.  

Can I get an interest-only mortgage with bad credit?

With mortgages and bad credit there are no hard and fast rules because it will always depend on the type of credit issues and how recent they were. And in many cases you can still get a mortgage with bad credit, although it’s likely you’ll be charged a higher rate. So it’s a good idea to get advice from a fee-free mortgage broker as they’ll be able to explain your options to you. And read our guide on Mortgages for bad credit.

Can you pay off an interest-only mortgage early? 

Yes however, you may have to pay an early repayment charge, so always check.

What interest-only mortgage rates can I get in the UK?

Like all mortgages, interest-only mortgage rates in the UK can change quickly. So the best – and quickest – way to find out what interest-only mortgage rates is to speak to a fee-free mortgage broker.

Frequently Asked Questions