Interest-Only Mortgages: The Real Cost of Deferring Principal
Published 25 July 2026
An interest-only mortgage is exactly what it sounds like: for a set period, your payment covers only the interest charged on the loan, and none of it reduces the balance you owe. It's a genuinely useful tool in specific situations: buy-to-let investors relying on rental yield rather than personal income, borrowers expecting a lump sum from a bonus or asset sale, bridging finance. It is also, when used as a way to simply afford a bigger mortgage today, one of the more expensive-in-hindsight decisions a borrower can make. The two things that make the difference are worth separating clearly.
Why the payment is lower
On a repayment (principal and interest) mortgage, part of every payment chips away at the balance, and the interest charged each month shrinks slightly as the balance falls. On an interest-only mortgage, the balance never moves during the interest-only period, so the interest charged (and therefore the payment) stays flat, and lower than an equivalent repayment payment, for as long as the interest-only period runs.
On a $300,000 loan at 5%, the interest-only payment is simply the interest for one month: $300,000 × 5% ÷ 12 = $1,250, and it stays exactly $1,250 every month the loan remains interest-only, because the $300,000 never shrinks.
Why the balance not moving is the actual cost
The trade-off is straightforward but easy to underweight when you're the one signing the paperwork: every dollar not put toward principal today is a dollar of principal you'll still owe (and still be paying interest on) years from now.
Take a $300,000 loan at 5% over a 30-year term and compare two paths:
- Standard repayment for the full 30 years: total interest paid over the life of the loan comes to about $279,744.
- 5 years interest-only, then 25 years of repayment on the full, untouched $300,000 balance: total interest comes to about $301,170, roughly $21,400 more, for the same starting loan, the same rate, and the same total term.
The gap exists because none of those first five years' payments touched the principal. The borrower paid five years of interest on the full original balance and has nothing to show for it in reduced debt.
The payment jump nobody plans for
The other cost is less about total dollars and more about payment shock. In the example above, the payment jumps rather than rising gently once the interest-only period ends: from $1,250 a month to roughly $1,754 a month, because the remaining $300,000 now has to be repaid, principal and interest, in the 25 years left rather than the original 30. That's a 40% increase, arriving on a single, specific date, regardless of whether the borrower's income has grown to match it.
This is the scenario that shows up repeatedly in mortgage-market post-mortems: borrowers who took interest-only terms specifically to make a purchase affordable, with a plan to "refinance" or "sell before it resets" that didn't pan out on schedule. The interest-only period simply postpones the affordability problem, and adds interest cost on top of it. It's a similar underlying idea to how lenders check affordability more broadly — see our comparison of how mortgage stress tests work across the UK, US, Canada and Australia.
When interest-only genuinely makes sense
This isn't a knock on interest-only as a product. Used for the right purpose, it tends to work well when:
- You have a defined repayment plan for the principal: a maturing investment, an expected inheritance, a planned property sale — not a vague hope that income will rise enough to absorb the later jump.
- You're a buy-to-let or rental-property investor using the lower payment to improve monthly cash flow, with the rental yield (and eventual sale or refinance of the property) as the actual repayment strategy rather than personal income.
- You need short-term payment flexibility (for example, a bridging loan while a chain completes), where the interest-only period genuinely is short and temporary by design, not a way to stretch affordability on a permanent home purchase.
Where it tends to go wrong is when it's chosen primarily to qualify for a larger loan than a repayment mortgage would allow, on the assumption that "something will work out" before the balance comes due.
Run both numbers before you sign
An interest-only period defers your principal repayment rather than lowering your true mortgage cost, and it adds the interest that accrues on the un-repaid balance during that period. If you're weighing it up, run both numbers before you decide: what does the interest-only payment save you now, and what does the balance-plus-interest look like when the period ends and the clock resets on a shorter remaining term. Both numbers are knowable in advance, so there's no reason to be surprised by either one.