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Clouseau

Repayment V Io Mortgages?

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Apologies if this has been discussed before, but I am about to embark on an IO mortgage, & would like to better understand - it's been explained to me that IO can actually make more economic sense, since if one has a repayment mortgage of, say, £500 per month, almost all of that sum is paying off interest, not capital - whereas, if the same amount was borrowed on IO, & the monthly repayments were eg £300, by saving the extra £200 & paying that off against the capital once a year, the capital sum would be earlier/faster reduced, & the interest would reduce quicker; anyone able to verify/clarify this? Being 'old school' about mortgages, IO goes against my instincts, but the rationale here seems persuasive - thanks for any replies..

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You have to invest the extra money left over to make the final payment at the end. So your extra £200 has to find itself

a good investment vehicle with a good return. I believe..

May be someone with more knowledge can add to this.

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Apologies if this has been discussed before, but I am about to embark on an IO mortgage, & would like to better understand - it's been explained to me that IO can actually make more economic sense, since if one has a repayment mortgage of, say, £500 per month, almost all of that sum is paying off interest, not capital - whereas, if the same amount was borrowed on IO, & the monthly repayments were eg £300, by saving the extra £200 & paying that off against the capital once a year, the capital sum would be earlier/faster reduced, & the interest would reduce quicker; anyone able to verify/clarify this? Being 'old school' about mortgages, IO goes against my instincts, but the rationale here seems persuasive - thanks for any replies..

Basically, one good thing about a repayment mortgage is that, at the end of the term, you have paid the place off and can therefore live mortgage and rent free. You have ditched what is most young people's biggest outgoing and can therefore live on much less than if you still had a mortgage to pay. Go repayment if you can.

Interest Only suits in the following circumstances (plus any others i've missed of course) -

For young people trying to get on the ladder who want to buy before prices rise, expect siginificant pay rises soon, can only afford to buy on interest only but are planning on changing to repayment 3 years later (eg trainee lawyer). Note: does the pressure to buy argument work now? Is getting on the ladder esssential now?

For investors who believe in long term capital growth but can't afford repayment.

For investors who believe in long term capital growth but want to gear to the maximimum - a strategy that can be powerful in a rising market, by allowing more property to be bought than if they were all repayment.

Anyone who believes that the money they are "saving" by going interest only can be invested for higher amounts elsewhere.

Anyone who believes that paying off a mortgage is a waste of time because it'll only F@*$ Up any attempt to get government support in your old age if you do.

There is no easy answer but in general I would say that unless you are 100% comfortable with the reason that you are taking out an interest only mortgage the the answer is that you should have a repayment mortgage.

PLEASE NOTE THAT THIS IS NOT ADVICE AS I AM NOT QUALIFIED TO GIVE MORTGAGE ADVICE.... MERELY OBSERVATIONS.

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Apologies if this has been discussed before, but I am about to embark on an IO mortgage, & would like to better understand - it's been explained to me that IO can actually make more economic sense, since if one has a repayment mortgage of, say, £500 per month, almost all of that sum is paying off interest, not capital - whereas, if the same amount was borrowed on IO, & the monthly repayments were eg £300, by saving the extra £200 & paying that off against the capital once a year, the capital sum would be earlier/faster reduced, & the interest would reduce quicker; anyone able to verify/clarify this? Being 'old school' about mortgages, IO goes against my instincts, but the rationale here seems persuasive - thanks for any replies..

Eh,

your repayment mortgage pays off your interest and capital.

So your £300 a month interest in year 1 pays off the interest on the outstanding amount. In year 2, the balance is less (because you have paid some off by the repayments), so your monthly interest payment is less and your capital repayment is higher. Etc. for another 23 years......

If you go interest only, you pay £300 a month interest for the full 25 years. Your £200 a month on a repayment amount goes into an investment vehicle and needs to make more than you are paying in interest (net of tax, inc. income tax to to earn it) to make it worthwhile - that's not easy pickings.

Plus with most repayment mortgages, any capital sums are paid off monthly so you don't pay interest on the interest or on the repayment amount intra year that you have made.

It sounds like what you were told was either shouted in a noisy nightclub or just wrong.

I don't suppose it was a broker pushing both an IO mortgage and an investment vehicle that told you this, was it ?

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Thanks very much for your replies, but neither seems to address the central point that the money SAVED each month (£200 in my example) can be used to repay the capital sum borrowed (up to 10% per year without penalty after the 1st year), meaning that each year, a £2400 reduction in capital sum (with consequent readjustment/lowering of monthly interest amount) - with a repayment mortgage, the capital sum would not reduce by so much, so early, since it is more 'loaded' towards paying off interest in the early years; I may very well be adrift in my thinking here, but as yet can't see how ..

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Thanks very much for your replies, but neither seems to address the central point that the money SAVED each month (£200 in my example) can be used to repay the capital sum borrowed (up to 10% per year without penalty after the 1st year), meaning that each year, a £2400 reduction in capital sum (with consequent readjustment/lowering of monthly interest amount) - with a repayment mortgage, the capital sum would not reduce by so much, so early, since it is more 'loaded' towards paying off interest in the early years; I may very well be adrift in my thinking here, but as yet can't see how ..

I do understand what you are saying, but i believe most IO mortgages won't allow you to pay off capital each year (i would think you have to remortgage). Have you found one that can? If you have then it certainly may make sense, especially if you can lock in your IO payments at a fixed rate and then if interest rates go up you will get a better return on your savings and thus making the capital repayments easier.

I believe also, though i may be wrong that a lot of repayment mortgages are reconciled annually anyway which is essentially what your after above. The capital is reduced once a year (and thus the interest too).

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Thanks very much for your replies, but neither seems to address the central point that the money SAVED each month (£200 in my example) can be used to repay the capital sum borrowed (up to 10% per year without penalty after the 1st year), meaning that each year, a £2400 reduction in capital sum (with consequent readjustment/lowering of monthly interest amount) - with a repayment mortgage, the capital sum would not reduce by so much, so early, since it is more 'loaded' towards paying off interest in the early years; I may very well be adrift in my thinking here, but as yet can't see how ..

Well if they were both at the same interest rates I think repayment would be better, but I'm not qualified so this could be plain wrong!! I'll put an example below:

For both mortgages to pay off the interest in the first month costs £200. In the IO mortgage you put aside the £300. In the repayment mortgage you pay off £300 of the borrowed capital.

In the second month the IO mortgage costs £200. The repayment mortgage costs £199 + the £300 repalyment.

So say after 12 months repayment wise you are paying £188 plus the £300 repayment. The IO mortgage you are still paying off £200.

Then you pay in the £3600 pounds and the interest drops to £188.

Repayment is better as the interest cost dropped as soon as you paid a little back. So the repayment mortgage saved £66 I think.

To be better off with the IO the house price has to go up or you have to invest the money you would have paid( the £3600) so that it makes more than the £66.

I hope this makes sense/is right. I could be completely wrong but that is how I understand it.

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Thanks very much for your replies, but neither seems to address the central point that the money SAVED each month (£200 in my example) can be used to repay the capital sum borrowed (up to 10% per year without penalty after the 1st year), meaning that each year, a £2400 reduction in capital sum (with consequent readjustment/lowering of monthly interest amount) - with a repayment mortgage, the capital sum would not reduce by so much, so early, since it is more 'loaded' towards paying off interest in the early years; I may very well be adrift in my thinking here, but as yet can't see how ..

No it does not, on a repayment mortgage, you pay interest monthly on the amount that you owe.

If you owe £50K, you pay interest in month one on the £50K (and make a payment of £200)

In month two, you pay interest on £49,800 (which is less).

In month three, you pay interest on £49,59odd, because you are paying less interest and more capital in your £500.

Where are you getting this loaded with interest in early years from, unless you have a weird mortgage, they don't work like that. You pay interest on your balance each month. If the balance is less, you pay less interest, of course you pay more interest when you owe more capital.

With an IO, you will still be paying £300 a month interest on the loan in year 24 [but should have £ in your investment to cover it).....

Edited by Rachman

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In a nut shell a repayment mortgage is better because the capital is constantly reduced.

At best an IO mortgage can only be as good as a repayment mortgage but for that to happen you would need the consent of your lender to be able to pay off capital EVERY month.

If you can't you are always paying back interest on the whole loan, 100%. Repayment mortgages reduce the debt, therefore the interest will be reduced and the capital increased.

If you are disciplined, should your lender refuse to allow to pay off the capital, you can always bank however much you can save and hopefully get a good APR.

There are other investment vehicles such as ISA's but I don't know enough to offer you advice.

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No no no.

You get the maximum IO mortgage for which you can barely afford the repayments.

Don't set up a repayment vehicle (can't anyway).

Put an over inflated price on an over valued house.

Put you finger in your ears for 25 years and sell your house when your 60 to repay.

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  • 301 Brexit, House prices and Summer 2020

    1. 1. Including the effects Brexit, where do you think average UK house prices will be relative to now in June 2020?


      • down 5% +
      • down 2.5%
      • Even
      • up 2.5%
      • up 5%



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