Interest-only Mortgage For First Time Buyer

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Interest-only Mortgage For First Time Buyer
Interest-only Mortgage For First Time Buyer

Interest-only Mortgage For First Time Buyer

Lee Gathercole and Neezam Romjon talk to us all about interest only mortgages for First Time Buyers.

Podcast approved by The Openwork Partnership on 18/12/2024

What is an interest only mortgage?

An interest only mortgage is where you’re borrowing money and on a monthly basis you’re paying the interest to borrow that money, but you’re not reducing the debt down at all. If you borrowed £100,000 over 25 years on an interest-only mortgage, every month you’re paying just the interest – but after the 25 years, you have to pay back that £100,000 you borrowed.

The advantage is that you have lower monthly payments, because you’re only paying interest each month.

Are banks still offering interest only mortgages at the time of recording in November 2024?

Yes, there are banks offering interest-only mortgages. Not all banks do, so it could be a challenge, and it may not be with a high-street bank.

How do I know if an interest only mortgage is right for me?

The only real way to know is to get some advice. Speak with an advisor to understand how it works and the risks and benefits.

We could also give you some advice, of course, on whether it’s suitable for you or not. That’s something we do for our clients all the time.

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

Normal affordability rules apply, the same as if you’re applying for a repayment mortgage.

As an example, you might be able to borrow four to five times your income – those rules apply across the board. What may be a challenge, particularly with an interest only mortgage, is that some banks set a minimum income.

There’s generally no minimum income for repayment mortgages, but for interest only, quite a lot of banks require at least £50,000, £100,000 or a joint income of £100,000.

How do you calculate an interest-only mortgage payment?

The easy answer is look online for an interest only mortgage calculator. Lots of tools online will tell you what the monthly payments will be, depending on how much you’re borrowing and the interest.

I tend to do it on a calculator. If you’re borrowing £100,000 over 25 years, and it’s a 5% interest rate, I would put £100,000 into the calculator, times it by 5%, divide that by 12 and that gives you monthly payments. It’s £417 a month in that scenario.

But it can be easy to make mistakes if you’re doing it manually. If you’re approaching us for help, your advisor will have a conversation with you around what the payments will look like. It also depends on what the interest rate is, what lenders you qualify for, what your situation is, the income you’re earning… there are lots of factors.

Are interest only mortgages typical for First Time Buyers?

The honest answer is no. They’re not typical mortgages for First Time Buyers.

Generally, banks like to see a large amount of equity in your property. That is the property value minus the mortgage amount. It could also be about your deposit – for example, a typically requirement is 25% to 35% deposit, or a minimum of £150,000 or £250,000 in equity – so it’s large sums of money.

The reason why they want equity in your property or a large deposit is because you’re not paying that mortgage down. By the end of 25 or 30 years, your mortgage balance would remain the same. How are you going to pay that mortgage back?

The most common one is to sell the property and downsize. If that equity is a reasonable sum, you should have enough money to do that.

Plus, we’ve got the minimum income requirements with most banks. So these aren’t typical mortgages for First Time Buyers for those reasons.

Can a First Time Buyer get an interest only mortgage?

In theory, yes, if you meet the criteria with lenders and you have a suitable repayment strategy, you could get an interest only mortgage. The question is, is it going to be the most suitable mortgage for you? Obviously, that’s a conversation to have with an advisor.

What interest rate can I get as a First Time Buyer?

Interest rates are changing all the time, but where high street lenders are offering interest only mortgages, the usual interest rates would still apply.

We’re not looking at additional or higher interest rates specifically because it’s interest only.
You could expect to get the same competitive mortgage rates available in the market.

Is it hard to qualify for an interest only mortgage? What’s the process?

It is quite hard to qualify for an interest only mortgage, especially if you’re a First Time Buyer. That’s for some of the reasons Lee covered off earlier – and that banks and building societies are very cautious with residential mortgages on an interest only basis. Historically, they’ve caused some trouble.

People have ended up in negative equity or unable to find suitable repayment strategies for clearing the debt at the end of the term. It’s now regulated more heavily, which is a good thing. It means people aren’t finding themselves in a tricky position at the end of the term.

It’s not impossible, though, especially if you’re financially in a very strong position and you could meet lenders’ criteria.

How much deposit do you need for interest only?

You will need a larger deposit than on a repayment mortgage. Most banks don’t usually offer an interest-only mortgage if you’ve got a 5% or 10% deposit, which is what most First Time Buyers tend to have. You do need a sizable deposit to qualify for these types of mortgages.

It goes back to the risk for the bank of you not paying back the mortgage at the end of the term. They like to see that equity in the property in case you want to downsize. The minimum equity for a lot of banks is £100,000, £150,000 and even up to £300,000 with some.

That’s a large deposit if you’re buying a property for the first time. It definitely comes with its challenges, but it does also depend on the property value.

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What are the disadvantages of interest only mortgages?

It suits the right kind of person with the right strategy. But you’re not reducing your debt. The interest you pay every month on £100,000 worth of borrowing will be the same every month throughout the term.

On a repayment mortgage, you’re reducing the debt down every single month. The interest is applied each time on a slightly lower debt. After 15 years or so, when you get to a balance of £50,000, you’re only paying interest on that portion of the borrowing, rather than £100,000.

That’s one of the big disadvantages. It could end up costing you more in interest on an interest-only basis, unless you’re reducing that debt down.

The other big one is relying on a suitable repayment strategy. At the end of the mortgage term, that lender is going to ask for their money back. You need a strategy lined up to repay them – or you risk them coming and repossessing your home. It can be a really anxious time. It can be very stressful if you are relying on a repayment strategy that isn’t suitable.

That’s not something we could advise on. You would talk to a tax advisor or financial professional regarding a suitable repayment strategy.

Is it worth doing an interest only mortgage, in your opinion?

For a First Time Buyer, it is certainly a challenge. But it could be advantageous for the right type of person, who has a really solid plan about their future. A suitable repayment strategy could be other properties, or they have a large deposit, or they have investments elsewhere.

They might also have a high income. Many banks have a minimum income, because it could attract people with the ability to make large overpayments regularly.

But the disadvantage is that it could cost you a lot more over the term. It’s really important that you look at that. As a First Time Buyer, unless you’ve got other investments or a larger deposit and that minimum income, it might not be as suitable for you as a repayment mortgage.

What else do we need to know about interest only mortgages for First Time Buyers?

We’ve covered a lot there. People do often ask about interest only mortgages – obviously, the draw is that your monthly payments are a lot lower. But when we dig a little bit deeper, people don’t always have a way to pay the debt at the end of the term.

It’s easy to think that it’s 25 or 30 years away, and you could find a way to do it, but that’s not good enough. You need a solid repayment strategy to protect you as well as the bank.

If you’re looking at an interest-only mortgage as a First Time Buyer, just be very cautious and make sure it’s the right way forward for you. Your advisor will make a recommendation.

We’ll always be honest and direct if it’s not the right solution for you. Again, it’s all about the importance of talking to an advisor and fully understanding the pros and cons.

YOUR PROPERTY MAY BE REPOSSESSED IF YOU DO NOT KEEP UP REPAYMENTS ON YOUR MORTGAGE.

Approved by The Openwork Partnership on 18/12/2024.

Interest-only Mortgage For First Time Buyer

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