Interest Only Loans

Interest only loans are back, after being out of favor and pretty much nonexistent for decades. Originally popularized during the Roaring 20s, these loans are structured like an ordinary loan, except that the borrower does not have to pay any principle - only interest - for a set number of years. The old interest-only loans of the 20s allowed for no payment of interest for the entire life of the loan, which meant that upon maturity, the entire principle came due all at once. This helps lead to the Great Depression, as millions of people lost their homes when they lost their jobs and means of income. They were left without a shred of equity, which is the great risk of interest only payments.

Nowadays these loans are normally packaged so that only a set number of years carry the interest only feature, and then the monthly payments increase for the rest of the duration of the mortgage, in order to offset the initial lack of principal payments. The advantage is that you can borrow more money for a smaller monthly payment for a period of time, which allows some consumers to use their money elsewhere, or to reduce their monthly overhead. If you use an interest only loan, for instance, that has a 10 year period of no principal repayment, but you sell your house after only 7 years, you will be able to reduce your monthly overhead for 7 years and then pay off the loan at closing.

For those who are buying and selling every few years, interest only is an attractive option. For others, it may be a high-risk path to deeper debt farther down the road. Be sure you know which type of borrower you are, before venturing into the interest only arena, so that you control the loan and it does not control you and your finances.

Real Estate Investing