Reading time 5 minutes

How does an interest only mortgage work?

You borrow the money to buy a home, but only pay back the interest.
The amount you pay each month may be lower than a repayment mortgage, because you aren’t repaying the money borrowed at the same time.
The amount you borrow won’t go down during the term of your mortgage.
You will need to repay the money borrowed for the home at the end of the term with a repayment strategy.

What can you use as a repayment strategy?

You will need to tell your lender about how you’ll pay off the money at the end of your mortgage term.

At the start and during the term, you’ll need to show them evidence of how you plan to do this.

There are lots of ways you can pay off an interest only mortgage:

Sale of the property

You can sell the home at the end of the term to pay back what is owed. There are rules around this. For example, you may need a certain amount of equity in the property to do this. Be sure to check with your lender. 

Sale of other UK property

You can also sell a home that isn't one you've taken out an interest only mortgage to buy. Each lender will have rules about this – the property may need to be in the UK, for example.

Pension Lump Sum

A lump sum from a defined contribution scheme or Self Invested Pension Plan (SIPP) could be used to pay off an interest only mortgage at the end of the agreed term.

Savings

You may also use savings. Your lender may want you to hold your savings for a certain amount of time, or be able to cover the full amount borrowed. Check the terms of the mortgage for how to use savings as a repayment method.

Existing endowments

You may be able to use an existing endowment. There may be limits on how long the endowment has been in place, the term of the endowment and you’ll need policy statements as evidence.

Investments

You may also be able to use investments. The current value of the investments must cover 100% of the money you borrow and you’ll need evidence to prove this. You can use a combination of investments and savings.

Is an interest only mortgage right for you?

There is lots to think about before you take out an interest only mortgage.

Benefits of an interest only mortgage

Monthly repayments may be lower than if you were repaying the capital and interest at the same time.
It can free up cash during the term of your mortgage to use as you wish.

Considerations of an interest only mortgage

You need to be confident you can pay off what you owe at the end of your term.
You may pay more interest overall, as the amount you borrowed will not be going down.
The content on this page is for reference. It is not financial advice. For help with money issues, try MoneyHelper.

Looking for a mortgage?