Last reviewed on 2nd May 2022
Landlords with buy to let mortgages often have them on an interest-only basis. There are good reasons for this. Purchasing a buy to let is often for investment purposes and an interest-only mortgage can keep monthly costs to a minimum, especially when compared to a repayment mortgage.
There are certain caveats to be aware of before deciding on which mortgage is the best option for your investment goals. The type of buy to let mortgage you decide on will largely depend on what you hope to achieve from your investment.
Although interest-only mortgages are popular with buy to let landlords, repayment mortgages are still an option. Read this guide to make a more informed decision on the right mortgage for you.
What is an interest-only buy to let mortgage?
With an interest-only buy to let mortgage, you’ll only pay interest on the loan. The mortgage balance itself is paid when the term expires. This is why monthly mortgage costs are low when compared to a repayment mortgage.
The majority of landlords choose this route to save more investment income each month. The surplus rental income can then be used to buy further properties or maintain the existing buy to let. That being said, the loan will still need to be repaid at the end of the term. Landlords typically do this by selling the property.
What are the advantages?
The key advantages of an interest-only buy to let mortgage include:
- Lower monthly payments
- Increased rental profits
- No minimum income requirements
- Can be tax efficient
Lower monthly payments
The main advantage of having an interest-only mortgage is that monthly payments are typically a lot lower. This is because you’d be paying just the interest on the mortgage which is usually a fixed amount each month.
Many landlords will switch to another buy to let mortgage once their introductory period is over. As a result, interest-only payments will remain low for the initial term of the mortgage. This period can be anywhere from two to five years. Once the term expires, remortgaging a buy to let can keep interest rates low.
Learn more: How to remortgage a buy to let property
Increased rental profits
Lower monthly payments also allow for an increase in monthly rental profits. The additional income saved from rental payments can be very useful, especially when maintenance issues arise. Furthermore, surplus income can cover insurance and professional costs such as letting agent fees.
Saving money each month can be very advantageous as you may be able to generate enough profit to buy another buy to let property. This is often how landlords are able to grow their property portfolios to generate a sizeable income each month.
In addition, you can benefit from any capital gains on your property. For instance, when your mortgage term comes to an end, you may sell the property to repay the mortgage balance.
No minimum income requirements
Many buy to let lenders don’t have any minimum income requirements for buy to let mortgages. This is often because the investment property itself will create an income. As a result, lenders will insist that monthly rental figures exceed the mortgage. This can vary, but rental income usually needs to be around 125-145% of the mortgage, depending on the lender.
As some lenders have zero income requirements, it can be easier to purchase a buy to let property using an interest-only mortgage as opposed to a repayment mortgage. This is because a repayment mortgage will incur higher payments each month, leaving less rental profit behind. This can be particularly useful if you’re worried about meeting a lender’s affordability requirements.
Read more: What is a buy to let repayment mortgage?
Interest-only mortgages for buy to let can be tax efficient. That said, this does depend on how your finances and investments are arranged. Despite changes to landlord tax legislation, there may still be some tax benefits to take advantage of.
It’s important to understand you may save money on tax depending on how you’ve arranged your property investments. Do consult a tax specialist if you require further information regarding this.
Are there any disadvantages?
- You’re not paying towards owning the property
- Likely to pay more interest
- Some lenders will request a repayment plan
You’re not paying towards owning the property
The main disadvantage is that you won’t own your investment property at the end of the mortgage term. This is because you’re not paying anything towards the actual mortgage balance.
Some lenders may allow you to make capital repayments during your mortgage term, reducing your balance each time. This does depend on your lender and any early repayment charges that your mortgage includes.
Likely to pay more interest
As a result, you’ll actually pay more in terms of interest when compared to a repayment mortgage. This is because the level of interest remains the same, as your outstanding balance will not reduce.
With a repayment mortgage, you pay towards the balance, so the amount of interest owed will also gradually reduce.
Having a repayment plan
As you’ll still have the mortgage balance to settle at the end of your mortgage term, you’ll need an exit strategy. Many landlords choose to sell their investment properties when their mortgage term ends. Investors are able to profit from any capital gain while repaying the mortgage balance in full.
This is a risk as property prices could fall around the time your mortgage term comes to an end. Some lenders also won’t approve this repayment plan.
You may choose another repayment strategy to cover the balance of your buy to let mortgage such as an investment fund. Nonetheless, being unable to repay your lender can result in your property being repossessed which will also impact your credit file.
Am I eligible for an interest-only buy to let mortgage?
To qualify for a buy to let mortgage on an interest-only model, lenders will assess the following:
- Credit score
- Income – Some lenders have no income requirements
- Affordability – This is based on rental income
- Minimum age – Most lenders require applicants to be at least 21 and others 25
- Portfolio limit – Some lenders will restrict how many mortgages they can approve with one applicant
How much can I borrow?
The amount you’re able to borrow will be based on the lender you’ve approached. This is because each lender has its own affordability assessment.
Some lenders will use your personal income to calculate how much you’re able to borrow. Others will use the potential rental income from the property you wish to buy.
Buy to let mortgage calculator
Use our calculator to see how much you can borrow for a buy to let mortgage and how much interest you’d pay each month.
Interest-only mortgage rates for buy to let
To get the best buy to let deals, it’s often advised to use deposits of around 40%. This is because lenders tend to offer their best deals at 60% loan to value. It’s understandable that a 40% deposit isn’t possible for most investors. Nonetheless, this is the point at which the best deals are typically offered.
The majority of buy to let lenders will require at least 25% for an interest-only mortgage, whereas some lenders may accept just 15%. Lower deposits mean higher rates and fees so do bear this in mind. Paying over the odds can have a negative impact on the amount of rental profit you make, so it’s important not to overlook this.
How much deposit will I need?
The amount of deposit you’ll need will also depend on the type of property you’re buying. For instance, if the property you’re buying requires refurbishment, you’ll need a higher than average deposit. Some lenders may decide that the property requires too much work and won’t lend. A new build buy to let will also require deposits of around 35%, as lenders view new properties as higher risk.
On regular properties, it’s possible to get competitive mortgage rates with a 25% deposit. It can be financially viable to spread your deposit over two properties if you have a very large deposit. This can generate even more rental income.
Speak to a buy to let mortgage advisor
Investing in property should always start with calculating the costs and profits and whether or not the property you wish to purchase is a suitable investment. There are many different types of buy to let mortgages and just because an interest-only mortgage is popular with investors, it doesn’t mean to say that it will be right for everyone.
The property you wish to buy may need a refurbishment before it’s rented out for instance and you may require a more specialist type of mortgage.
There are a lot of lenders that offer interest-only options on buy to let mortgages. Although high street lenders do offer them, there are a host of other lenders that can offer better rates. Some lenders will only accept applications through mortgage advisors and often have exclusive deals on offer.
If you truly want the best deal, speak to our advisors who can compare thousands of deals. This will ensure you’re not overpaying. We’ll also guide you from start to finish throughout the process.