The repayment on your mortgage will always include the interest payable on the amount borrowed, regardless of the type of loan you have.
There are 2 different repayment types to choose from depending on your financial situation:
- Principal and Interest (P&I)
- Interest Only (IO)
What’s the difference?
There are two parts to a home loan balance:
- The principal amount is how much you have borrowed.
- The interest is an amount your lender charges you based on your principal. It’s calculated daily as a percentage (your interest rate) of your principal and added to your balance every month.
If you choose interest only repayments, you’re only paying off one part of your home loan – the interest charges.
Choosing principal and interest repayments means you’re paying off both parts of your home loan (and you’re paying off your home loan faster).
Principal and Interest (P&I)
A Principal & Interest loan is where you start reducing the ‘principal’ amount borrowed and paying the interest accumulated.
Pros
- You will pay less interest over the life of the loan
- Generally you will have a lower interest rate than an interest only loan
- You’ll be paying off your loan sooner, therefore owning your home sooner
Cons
- Repayments are higher than interest only as you are paying off the ‘principal’ too
- May not be tax efficient for investment loans
- Less available cash
Interest Only (IO)
A loan with Interest Only repayments will only pay off the ‘interest’ part on the loan. It will not reduce the balance (or the amount you borrowed).
At the end of your IO period, usually up to 5 years, the loan will revert to Principal and Interest.
Pros
- Repayments are smaller as your not paying off the balance
- Usually preferred by investors for potential tax benefits – speak to an accountant
- You have more available cash as repayments are less
Cons
- Prinicpal will not reduce during the IO period
- More interest paid over the life of the loan
- Usually a higher interest rate for the IO period
- Your reverted P&I repayments after the IO term will be higher to pay off the ‘principal’ amount
How can I work out the difference?
Use our Interest Only Calculator and Repayments Calculator to compare the different repayment types to see which may best suit your current needs and financial situation, everyone is different.
This page provides general information only and has been prepared without taking into account your objectives, financial situation or needs. We recommend that you consider whether it is appropriate for your circumstances and your full financial situation will need to be reviewed prior to acceptance of any offer or product. It does not constitute legal, tax or financial advice and you should always seek professional advice in relation to your individual circumstances.
