An “Interest Only” mortgage is a mortgage where the mortgagee’s monthly repayments only repay the interest due on the outstanding loan, at a prearranged interest rate.
This is alternative mortgage product to a “Capital and Repayment” mortgage.
A Capital and Repayment mortgage is where the mortgagee makes monthly repayments, part of which repays some of the capital borrowed as well as interest due on the loan.
An Interest Only mortgage runs for a set term, which could be any length of time, but will normally range between 10 and 25 years.
Due to the fact that the outstanding mortgage loan will not be repaid by the monthly payments, the onus is on the mortgagee to make other arrangements for the capital to be repaid by the end of the arranged term.
This would normally be done by using a repayment vehicle such as an endowment policy.
In simple terms an endowment policy is a mixture between a life insurance policy, an investment policy and a savings policy.
Each month a little of the monthly contribution is used by the investment company to cover the life insurance of the policy holder up to the level of the outstanding mortgage loan, the rest is invested, with bonuses added throughout the endowment’s life, if and when the endowment’s fund performs well.
Due to the nature of the investment markets, it is impossible to fix the endowment’s final fund value, which means there is a possibility there may be a shortfall in the expected value of the endowment, when the endowment reaches maturity.
It is therefore possible that there would be insufficient funds available from the endowment policy to repay in full the outstanding mortgage loan.
This is why it is so important to monitor the endowment fund for the duration of the policy, to make sure it remains on target and, if there is a shortfall forecast, that steps are taken to cover the shortfall.
Because there is a sizeable difference between the monthly contributions for each of these two mortgage products for the same size loan, switching from a Capital and Repayment mortgage to an Interest Only mortgage can sometimes be a way of increasing the monthly contribution available to an Individual Voluntary Arrangement (IVA), therefore making an IVA more affordable as a result.
If you would like to know more about Individual Voluntary Arrangements (IVAs) call 0800 088 7503 to speak to one of our trained Individual Voluntary Arrangement advisers.
Alternatively, My IVA Adviser invite you to download our free IVA guides designed to inform you about Individual Voluntary Arrangements (IVAs).
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