An interest only mortgage loan is a loan in which for a given period the borrower only pays the interest on the principal balance with the principal balance remaining constant. At the end of the term the borrower may enter an interest only mortgage, pay the principal or convert the loan to a principal and interest payment loan at the individual’s option.
In US, five or ten year interest only period exists. After the end of the term the principal balance is amortized for the remaining term. For example, if a borrower has a thirty year loan, and the first ten years are interest only then for the remaining term of twenty years the principal balance would be amortized. This concludes that the early payments are substantially lower than the later payments.
This becomes flexible for the borrower because he need not make payment towards the principal early.
This also gives a chance to the borrower to borrow more loans than he would have otherwise been able to afford if he expects an increase in his salary substantially over the course of the loan.
During the interest only period of mortgage, the loan balance will not decrease if the borrower pays supplementary payments towards the principal.
This type of loan represents a high risk for lender, so interest rates are higher. Since there is little or no down payment in this type of loan, the varied interest rates points high risks for the buyer especially when he is not able to qualify for this loan structure.
The live example is a homeowner. Since he does not get any equity in this loan structure, he may be negatively affected by the existing market conditions, when is he is either ready to sell the house or refinance. Because of the speculative aspects of this type of loan the financial experts advise against this interest-only loan.
Interest only loans are at times generated artificially from structured securities. A pool of securities is created and separated into tranches. The cash flows which come from the original debts are spread through the tranches according to predefined rules. An interest only loan is one type of tranche that can be created. It is generally created with a principal only tranche. These tranches will then go to two particular types of investors, depending on whether the investors are trying to increase their existing yield or trying to reduce their exposure to prepayments of the loan.
Interest only mortgage payments calculation can be done when the interest rate and the loan amount are known.
Formula to calculate interest only mortgage loan.
Amount * rate/12 = monthly payment
If a person loan amounting $300,000 at the rate of 6% then interest only payment is calculated as follows
300,000 * .06 / 12 =$1500 per month