A Guide to Interest-Only Mortgages

Interest-only mortgages are a popular alternative to capital repayment mortgages, but what are they and how do you get one? Find the answers here…

What is an interest-only mortgage?

An interest-only mortgage is a type of mortgage where the borrower is required to pay only the interest each month, with the capital (the amount borrowed) not due for repayment until the end of the term.

The "interest-only" aspect refers to the repayment type, with the main alternative being a capital repayment mortgage, where the borrower repays both the capital and interest each month. Interest-only mortgages are less common in the residential market but remain popular with buy-to-let landlords.

Interest-only mortgages were more widely used before the 2008 financial crisis, after which many were found to have been mis-sold. Since then, lenders have tightened their criteria, and these mortgages now have a better reputation.

How do they work?

With an interest-only mortgage, you are only required to pay the interest each month, unlike a capital repayment mortgage, where both capital and interest are paid. As a result, your monthly payments will be lower than on a capital repayment basis, but you will still owe the full capital at the end of the term.

To repay the capital, you will need an approved repayment vehicle, which could include investments such as bonds, ISAs, or the proceeds from selling the property. The lender must approve the repayment vehicle in advance to ensure you have a plan in place to settle the debt at the end of the mortgage term.

Eligibility criteria

The criteria for residential interest-only mortgages are stricter compared to capital repayment mortgages, as lenders view them as higher risk. Below is a breakdown of the key criteria:

• Repayment vehicle: You must provide proof of an acceptable repayment vehicle to be approved for an interest-only mortgage. See the next section for examples of eligible options.
• Deposit requirements: The minimum deposit required is typically 15% of the property's value (85% LTV), though some lenders may demand a larger deposit.
• Income requirements: Some lenders set a minimum income threshold of £25,000 to £30,000 for interest-only mortgages, while others may require a higher income.
• Age restrictions: Lenders often impose stricter age limits for interest-only mortgages, with some not lending to applicants who will be 75 or older during the mortgage term. Others may allow older borrowers, but this varies.
• Other factors: It can be harder to secure an interest-only mortgage if you have bad credit, are newly self-employed, or are purchasing a non-standard construction property. In these cases, it's advisable to speak with a mortgage broker for guidance.

Some repayment vehicles are more widely accepted than others. The table below shows the approximate number of lenders you would have access to with each type:

Interest-only mortgage calculations

The table below shows how the monthly payments will look on interest-only mortgages of common amounts in increments of £100,000. For these calculations, we used an interest rate of 4.5% and a term length of 25 years, which is standard for the UK market.

Which lenders offer interest-only mortgages?

Several mortgage lenders, such as Bluestone and Bank of Ireland, do not offer interest-only mortgages, but most UK providers do, provided you have a repayment vehicle in place.

Here are some examples of lenders and their specific requirements for interest-only mortgages:

• NatWest: Offers interest-only mortgages but requires a minimum income of £75,000.
• Barclays: Requires a minimum equity of £300,000 if the repayment vehicle is the sale of the property the mortgage is secured against.
• HSBC: Offers interest-only mortgages with no minimum equity requirement.
• Accord Mortgages: Has a maximum age limit of 80 by the end of the mortgage term.

While many lenders offer interest-only mortgages, their criteria can vary significantly. It's advisable to speak with a broker to determine which lender best fits your financial situation and goals.

Pros and cons

The table below shows the advantages and disadvantages of interest-only mortgages at a glance, to help you decide whether this repayment type is right for you:

Unsure whether a capital repayment is a better alternative? See our interest-only vs. capital repayment mortgage guide for insight on this

Switching to or from interest-only

Homeowners can switch from a capital repayment mortgage to an interest-only mortgage, and in some cases, this can be done without going through the full remortgage process.

However, if your current lender does not offer interest-only mortgages or you don't meet their criteria for switching, you may need to remortgage with a different lender.

To switch to interest-only, you'll need to provide evidence of a repayment vehicle, which the lender must approve before the change is made.

Switching from interest-only to capital repayment is typically more straightforward since a repayment vehicle is not required. However, your lender will likely assess your affordability to ensure you can manage the higher monthly payments.

In some cases, it’s possible to switch to interest-only temporarily if you're facing financial difficulties, but this is subject to the lender's discretion.

Frequently Asked Questions