An interest-only mortgage was a very popular form of mortgage until the mortgage interest deduction for new mortgages with this type of mortgage expired in January 2013. An interest-only mortgage had a number of attractive benefits. Yet an interest-only mortgage also has a number of disadvantages. What exactly are these advantages and disadvantages?
Benefits of interest-only mortgage
An important advantage of the interest-only mortgage is that the monthly costs are relatively low. You only pay mortgage interest on the interest-only part of your mortgage , not repayment. With other mortgage types, your monthly payments consist of both interest and repayment, so you can imagine that you will pay a larger amount every month. You can therefore take out a higher mortgage with this type of mortgage.
The second benefit is the mortgage interest deduction, provided that your interest-only mortgage still falls under the old rules. With an interest-only mortgage, you can take maximum advantage of the mortgage interest deduction. Because you do not pay off the mortgage, you continue to pay interest on the total loan. You can therefore state a higher amount for the mortgage interest deduction than if you have already repaid part of it.
Note: This benefit does not apply if you took out the mortgage after 1 January 2013. Even if you increase your mortgage after this date with an interest-only mortgage, this part of the mortgage is not eligible for the mortgage interest deduction. In the article ‘ What is mortgage interest deduction ‘ you can read more about what the mortgage interest deduction is.
Repayment-free mortgage disadvantages
The most important disadvantage of a new interest-only mortgage is of course that you are not entitled to the mortgage interest deduction. But an existing interest-only mortgage also has a number of disadvantages. First of all, existing mortgages are only entitled to mortgage interest relief for 30 years. After these 30 years, the tax benefit will expire and your monthly expenses will increase considerably.
Moreover, you do not build up capital in your home because you do not pay off. This makes you more vulnerable if house prices fall. If the debt remains high, unchanged, but if your house is worth less over time, you cannot help but sell the house with residual debt. If you do pay off, you lower your mortgage, which reduces your residual debt.
In addition, you must of course redeem the interest-only mortgage
You can do this by saving for the repayment yourself. If you do not do this, you pay off the mortgage the moment you sell the property. If you die yourself and your dependents sell your house, they will pay off the bank with this sale.