With an interest-only mortgage, your monthly payments cover just the interest charged on the loan. None of the original capital is reduced during the mortgage term. This means your monthly payments are significantly lower than a repayment mortgage, but at the end of the term you still owe the full amount you originally borrowed.
To be approved for a residential interest-only mortgage, most lenders require you to have a credible repayment strategy — a realistic plan for how you will repay the capital when the term ends. Common strategies include selling the property, using savings or investments, or downsizing.
Interest-only mortgages are more commonly used by buy-to-let investors, where the rental income covers the interest payments and the property can be sold at the end of the term. For residential borrowers, lenders have become much stricter since the 2008 financial crisis, and you typically need a large deposit (often 25% or more) and a verified repayment plan.
You borrow £200,000 on a 25-year interest-only mortgage at 4.5%. Your monthly payment is £750 (interest only). After 25 years, you still owe the full £200,000 and must repay it using your repayment strategy. Compare this with a repayment mortgage at the same rate, where monthly payments would be around £1,111 but the debt is cleared at the end.
Key Points
- Monthly payments cover interest only — the capital balance does not reduce
- The full loan must be repaid at the end of the mortgage term
- Monthly payments are lower than a repayment mortgage
- Lenders require a credible repayment strategy for residential borrowers
- Commonly used for buy-to-let mortgages