Interest Only Home Equity Loan



An interest only home equity loan is one of several types of home equity loans. With this type of loan you do not pay any of the principle, only the interest. Say you borrow $20 000 at 12% interest for one year. You would pay $200 per month for 12 months. At the end of the 12 months you still owe $20 000.

When the term of the loan is over, you have to pay back the $20 000. If you don't have the money, you may be able to negotiate a new loan.

The good thing about an interest only home equity loan is that you get the money you need quickly, and your monthly payments are very low.

However, many homeowners are never able to pay off this type of loan.

Interest only home equity loan - are you sure you can make the repayment?

What usually happens is that you are expecting a big payoff sometime in the future, but you need the money now. You can not wait for the windfall. But, in the meantime your car breaks down, your roof begins to leak and before you know it the year is over and you haven't paid a dime towards the principle.

You have no choice but to renew the loan for another year. The years fly by and you still have the same $20 000 in debt.

Interest Only Home Equity Loan: Home Equity Line Of Credit (HELOC)

A HELOC is probably the most popular interest only home equity loan. The difference between a home equity loan and a home equity line of credit is that a when the principle of a loan is paid down, you can’t access the funds again. If a home equity line of credit is paid down, these funds are available to be drawn down again by the borrower.

The home equity line of credit rate is based on the prime rate with a small premium. For example, if the prime rate is 3.0% then a HELOC rate will range from 3.25% to 4.0%, or prime plus 0.25% to prime plus 1.0%.

Benefits of an interest only home equity loan:

  • You have instant access to a lump sum of cash to consolidate high interest debts. The payments on your new home equity loan will be super tiny compared to the payments you are currently making on your credit cards and other loans.
  • You can also get equity out of your home and turn use it like a line of credit to draw from as you need. And the payments you would make on that line of credit are very small compared to the huge payments you would have to make to get a line of credit from your bank.

When you have more than 20% of equity in your home, you can borrow it to fund your dreams. A credit line is very flexible. You can make payments as large or small as you like. You can even make interest only payments. The money can be used for any purpose, such as investments, home improvements, a vacation, your child’s education, or consolidating high interest debts. You can borrow as much as you need, up to your available credit limit.

Interest Only Home Equity Loan: Small Payments

An interest only home equity loan or line of credit has smaller payments than other types of loans. With most loans you pay the interest plus a portion towards the principle. With an interest only loan or line of credit, you only make payments towards your principle when you can afford to.

Second mortgages, equity credit lines or home equity lines of credit are all considered home equity loans because the equity in your house is used as collateral. An interest only home equity loan provides the benefit of lower monthly payments, because there is no principle repayment.

When we set up a home equity line of credit, there is no term and no amortization. Therefore, we could maintain a minimum interest only payment forever!

Advantages of An Interest Only Home Equity Loan

Use an interst only home equity loan to pay for renovations

The biggest advantage is the small payments. If you plan to sell your home, making some home improvements will greatly increase its value. With an open interest only loan, you get the money you need to make renovations and the additional profits from the sale can pay back the loan in full. This type of loan is very handy for people who flip houses.

An interest only home equity line of credit is ideal for any of these 3 situations:

  • You are self-employed, earn income erratically. With a HELOC, you can make large lump sum payments to bring the principle down as you earn income. You can also draw out a steady income as needed to keep your cash flow consistent.
  • You are an investor and make large purchases and, or short term investments. With a HELOC you can access large sums of cash to make purchases. When you sell your investment, then you can pay off the line of credit and keep the profits
  • You wish to increase your cash flow. Because a HELOC has a minimum of interest only payments, the payments are smaller than a regular principle & interest payment. This increases cash flow vs. having a regular principle & interest mortgage payment.

For many people an interest only loan is a good deal, but it might not be a good option for everyone.

Interest Only Home Equity Loan: Disadvantages of This Type of Loan

The biggest disadvantage is that you do not pay down on the principle. At the end of the loan, you still owe the same amount. Also, unless your house appreciates, you do not build any equity. If your house depreciates during this time, you end up with less equity that you started.

This type of loan can be very tricky. It’s important to evaluate your spending and savings habits and your needs. A home equity line of credit or interest only home equity loan can provide much flexibility and is great for someone self-employed or an investor. A HELOC isn’t necessary the right choice if you just want to set it up and then forget about it.

Interest Only Home Equity Loan: Getting Approved

As with all loans, make sure you understand the details. Consider all your options, understand your specific needs and determine what type of mortgage is best for you: Open or Closed? Fixed rate or Variable rate? Interest only home equity loan or Principle and interest home equity loan? What amortization – 25 years? 30 years? 40 years?

Work with a knowledgeable mortgage broker or mortgage specialist who can help you narrow down your choices. He will work with many different lenders and this allows you to compare different lenders flexibility, service, etc. to make an informed choice. Your mortgage broker will discuss your needs and help you to compare and contrast the different options and choices.

If you really need money fast and for a good reason, an interest only home equity loan can be a good idea. Just be sure you know what you understand what you are choosing.

Return from Interest Only Home Equity Loan to the Best Canadian Mortgage Rates menu

Visit the Home Equity Loan Strategies home page