Traditionally, a mortgage involves borrowing a sum and repaying it, including interest, over 25 years. But what if you only pay interest and not the principal amount? It may sound unusual, but it has its place, especially in buy-to-let investments. Discover why buy-to-let mortgages often adopt an interest-only approach and how this can benefit landlords in our comprehensive guide.
What is buy to let mortgage?
A buy to let mortgage is specifically designed for properties intended for renting. If you intend to lease your property, a buy to let mortgage is essential. While it shares similarities with a standard mortgage, where you borrow a substantial sum for a defined period, there are significant distinctions to consider. Given that you won’t reside in the property, it entails specific nuances.
An alternative mortgage type is interest-only. Here, you solely settle the monthly interest accrued on your borrowed sum and repay the principal at the mortgage term’s conclusion.
Interest-only mortgages have become increasingly rare. When they are available, it’s usually under specific circumstances, like buy-to-let properties or later-life mortgage applications. This scarcity is due to past instances where borrowers lacked means to repay the capital at the term’s end.
If you hold an interest-only mortgage and face difficulty repaying the capital, promptly contact your lender for discussions on potential solutions. Addressing this issue well in advance of your mortgage’s maturity is advisable.
Buy-to-let mortgages that are interest-only
The majority of buy-to-let mortgages are interest-only because you pay the interest and nothing else. Doing so makes your monthly repayments lower, which means your profit margins for the rent received are higher than if your mortgage was on a repayment plan.
Once upon a time, there were also tax advantages to claiming the interest on mortgages when filing a tax return. However, that has since been capped to a standard 20 per cent after changes made in 2016.
But how do I pay back the mortgage?
Investing in assets like real estate or even cryptocurrency aims for value appreciation over time. Buy-to-let, a form of property investment, usually involves a long-term perspective, historically tied to property value growth. While nothing is guaranteed, the saying “safe as houses” reflects the relative stability of property markets.
Interest-only buy-to-let mortgages raise questions about repayment strategies. Most landlords plan to settle it through property sale, although other investments can also be considered. Often, the property’s value has risen significantly by the loan’s end, allowing you to clear the mortgage and pocket the profit (while considering capital gains tax). Alternatively, you might extend the mortgage or cash in on other assets to cover it if selling isn’t in your plans.
Are buy-to-let mortgages that are interest-only a good idea?
Determining whether an interest-only mortgage suits you isn’t straightforward (as circumstances vary). Nonetheless, it’s a common choice among landlords to pay only the interest. Opting for a repayment mortgage on your buy-to-let might yield slim or even non-existent profit margins, but it accelerates your property’s payoff.
What else should I know about interest-only and repayment mortgages?
Opting for an interest-only mortgage carries certain risks. Should property values decrease, you’ll need to cover the shortfall when repaying the debt. While house price declines are uncommon, as witnessed during the 2008 financial crisis, unforeseen events can occur.
Nonetheless, landlords typically have a long-term investment perspective and anticipate market fluctuations. Hence, many of them feel secure relying on interest-only buy-to-let mortgages.