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Due to the rising price of homes in Canada and the mortgage stress test, it has been challenging for Canadians to secure a mortgage. If you’re frustrated by the housing economy – you’re definitely not alone.
For these reasons, some Canadians are turning to alternative forms of mortgages to successfully purchase a home. One variation of a traditional mortgage is an interest-only mortgage. To learn more about what an interest-only mortgage is, how it differs from traditional mortgages and the pros and cons, continue reading below.
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As the name implies, an interest-only mortgage is a type of mortgage financing where the borrower only pays interest with their monthly payments. There is no principal repayment with an interest-only mortgage. The only way the principal balance will change is if the borrower makes extra payments.
Keep in mind that interest-only mortgages are usually structured with the option to make interest-only payments, it is not absolutely mandatory. This means that the borrower could make regular payments with the principal included and exercise their interest-only option when they face financial struggles. For example, a home buyer may incur an urgent home repair and decide to exercise their interest-only option in order to free up cash for the repair.
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The term of an interest-only mortgage is fixed and typically lasts between five and seven years. Once the term is up, most borrowers refinance their mortgage, begin to pay the principal of the loan or make a lump sum payment. If the borrower decides to start making principal payments, the amount will significantly increase.
On the surface, an interest-only mortgage sounds fantastic because your monthly payment will be lower without the principal amount. Keep in mind that the borrower still owes the principal amount, they simply are delaying the timing of principal repayment.
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An interest-only mortgage is still a mortgage and shares many qualities with traditional mortgages. However, the interest-only component ignites some differences too. Let’s explore the similarities and differences below.
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Interest-only mortgages have a unique structure that is only favourable in some circumstances. Below is a list of scenarios where an interest-only mortgage is desirable.
Before making your decision to proceed with an interest-only mortgage, it’s important to consider the pros and cons. Knowing the advantages and disadvantages can ensure that the choice suits your personal financial situation best. Let’s explore the pros and cons below.
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As you can probably tell, an interest-only mortgage is a very unique financial product and is rare for people to use regularly. Despite this fact, that doesn’t mean an interest-only mortgage it’s not right for you. Before making a decision to use an interest-only mortgage, be sure to consider the risks and have confidence that you won’t hurt your finances as a result of them. If you believe that your financial situation would benefit from using an interest-only mortgage, then go for it.
Note: Loans Canada does not arrange, underwrite or broker mortgages. We are a simple referral service.
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Loans Canada is pleased to announce it placed No. 131 on the 2022 Report on Business ranking of Canada’s Top Growing Companies.
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