An interest-only mortgage can significantly lower your initial payments, but it requires careful planning. Use this calculator to determine your monthly interest payment and see how much your monthly payment will jump once the interest-only period ends.
Interest-Only Mortgage Calculator
Calculation Steps
Interest-Only Mortgage Formula
Monthly Interest Payment (IOP) = Loan Principal $\times$ (Annual Rate / 12)
Variables Explained
- Loan Principal: The total amount of money borrowed from the lender.
- Annual Interest Rate: The nominal interest rate on the loan, expressed as a percentage. This is the rate used in the monthly interest calculation.
- Interest-Only Period (Years): The duration (in years) during which the borrower only pays the monthly interest and none of the principal balance.
- Full Loan Term (Years): The entire duration (in years) of the mortgage until the loan is fully repaid. The remaining years after the IO period require principal and interest payments.
Related Calculators
What is an Interest-Only Mortgage?
An interest-only mortgage (IO mortgage) is a type of home loan where the borrower pays only the interest on the principal loan amount for a set period, typically 5 to 10 years. During this initial interest-only period, the principal balance of the loan remains unchanged. This results in significantly lower monthly payments compared to a standard amortizing mortgage where payments cover both principal and interest.
Once the interest-only period expires, the loan enters the amortization phase. At this point, the monthly payment increases dramatically because the borrower must now pay both the interest and a portion of the principal to ensure the loan is fully paid off by the end of the full loan term. IO mortgages are often used by borrowers with irregular income, those who expect a large future windfall, or real estate investors.
How to Calculate Interest-Only Mortgage Payments (Example)
- Determine the Monthly Rate: Divide the annual interest rate by 12. If the annual rate is 6%, the monthly rate is $6\% / 12 = 0.5\%$, or $0.005$ as a decimal.
- Multiply by the Principal: Multiply the monthly rate by the loan principal. If the principal is $\$400,000$, the calculation is $\$400,000 \times 0.005$.
- Find the IOP: The result, $\$2,000$, is the fixed Monthly Interest-Only Payment (IOP) for the duration of the interest-only period.
- Calculate the New P&I Payment: Once the IO period ends, the remaining principal (still $\$400,000$) must be amortized over the remaining loan term. This results in a much higher principal-and-interest (P&I) payment.
Frequently Asked Questions (FAQ)
Is an Interest-Only Mortgage riskier?
Yes, they carry more risk. The primary risk is the “payment shock” when the IO period ends and the required monthly payment substantially increases. There is also the risk that the home’s value might not appreciate, leaving you with the same principal balance.
Does my principal decrease during the IO period?
No, the principal loan amount remains the same throughout the interest-only period because none of your payment is applied toward the loan balance.
What is “payment shock”?
Payment shock is the sudden, large increase in the monthly mortgage payment that occurs when an interest-only loan converts into a fully amortizing loan.
Can I pay principal during the IO period?
Yes, in most cases, you can make additional principal payments during the IO period, which is highly recommended to reduce the principal balance and lower your future P&I payment.