With a repayment mortgage, your monthly payments to the lender go towards reducing the amount you owe as well as repaying the interest they charge. This means that each month you're paying off a small part of your mortgage.
It's a clear approach, you can see your mortgage getting smaller and provided you maintain the required payments, you also have the certainty that your mortgage will be rapid at the end of term.
Initially, the majority of your payments go towards interest on your mortgage, which means in the early years, the amount you owe won't reduce be very much.
Interest Only Mortgages
With an interest only mortgage you only pay the interest charged on your loan, so you're not actually reducing the loan itself. You'll need to have some other arrangement or plan in place to repay your loan at the end of the term. For example - investments, saving plan, downsizing (where you sell your property and buy a cheaper one using the equity to repay your loan), making lump sum payments or changing to a repayment mortgage.
If the savings or investment plan you choose performs well, then you could pay off your mortgage earlier compared to a repayment mortgage. At the full mortgage term there may be a lump sum available after the mortgage has been repaid.
Very few investments or savings plans are guaranteed to repay your mortgage in full. At the end of the mortgage term, you're responsible for repaying the mortgage in full. If your savings or investment plan doesn't cover the full amount, you'll be responsible for paying the difference. Your mortgage lender can demand repayment, and they'll charge you interest on any outstanding balance until it's repaid.
Lump sum payments or changing to a repayment mortgage may not be possible if your circumstances change and you can no longer afford the increased amounts.
Downsizing is not a guaranteed method of repaying your loan as, even if you have enough equity now, house prices could fall and may leave insufficient equity to repay the loan. It is not avisable to rely on house prices increasing as this might not happen.
Some people may hope to rely on inheritance. However, there are several risks associated with this; people can change their wills and, therefore, your inheritance is not guaranteed; the amount you receive may be different to what you expect; you may not have inherited by the time your mortgage term ends or you retire and there can be a delay in receiving funds for an estate.
Many lenders will only accept certain plans to repay an interest only mortgage. Your adviser will be able to guide you.
Please note: the diagram below is for illustration purposes only and assumes a fixed rate of interest over the term of the mortgage. In reality, interest rates fluctuate.
It may be suitable for you to pay your mortgage by a combination of repayment and interest only.
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Your home may be repossessed if you do not keep up repayments on your mortgage
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