Last Updated on 16th October 2020
Many 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 whether an interest-only 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 investing in property.
Although interest-only mortgages are popular with buy to let landlords, you may feel as though a repayment mortgage may be better suited. We’ll cover all the positives and negatives of interest-only mortgages in this guide. You’ll then be able to make a more informed decision on what’s perhaps better for you.
Advantages of having an interest-only buy to let mortgage
To summarise, the main advantages of an interest-only buy to let mortgage are:
- 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 in comparison to a repayment mortgage is that monthly payments are typically a lot lower. This is because you won’t be repaying any of the actual mortgage loan itself. Instead, you’d be paying 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, landlords remortgage to keep their interest rates to a bare minimum.
Increased rental profits
Having a buy to let mortgage on an interest-only basis allows for an increase in monthly rental profits. As you’d only be paying the interest on the mortgage, you’re able to retain more rental income. This means you’ll be saving more profit each month.
The additional income saved from rental payments can be very useful, especially when maintenance issues arise. Furthermore, surplus income can cover insurances and professional costs such as letting agent fees.
Saving more 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 in your property. For instance, when your mortgage term comes to an end, you may sell the property to repay the mortgage balance. As mortgage terms often exceed twenty years, it’s likely you’ll make a profit as a result of inflation and an increase in property prices.
No minimum income requirements
Many buy to let lenders don’t have any minimum income requirements for interest-only 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 125-135% of the mortgage, depending on the lender you’re applying with.
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 buy to let mortgages can be tax efficient. Nonetheless, 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.
That being said, we’re unable to offer information and advice on tax. Nevertheless, 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.
Disadvantages of having an interest-only buy to let mortgage
The main disadvantage of having an interest-only buy to let mortgage 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. 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.
As you’ll still have the mortgage balance to pay 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.
You may choose another repayment vehicle to cover the balance of your buy to let mortgage such as an investment fund. Nonetheless, not having the funds to repay your lender can result in your property being repossessed which will also impact your credit file.
Some lenders also allow you to make capital repayments during your mortgage term, reducing your risk each time you do so. This does depend on your lender and any early repayment charges that your mortgage includes.
Interest-only mortgage rates for buy to let
To get the best interest-only 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 will entail 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.
The amount of deposit you’ll need will also depend on the property type. For instance, if the property you’re buying is need of some refurbishment, it’s likely you’ll need a higher than average deposit. Some lenders may decide that the property is need of too much work and will decide not to lend. A new build buy to let will also require deposits of around 35%, as lenders see new properties as higher risk.
On regular properties, it’s possible to get competitive mortgage rates with a 25% deposit. It’s often more financially viable to spread your deposit over two properties if you have a very large deposit. This can often generate even more monthly income. Our advisors can calculate this for you using today’s buy to let mortgage rates.
Interest-only buy to let advisors
Investing in property should always start with calculating the costs and profits and whether or not the property you wish to purchase is a viable 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 for interest-only 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 check hundreds of lenders and thousands of deals. This will ensure you’re not overpaying. We’ll also guide you from start to finish throughout the process.