Understanding interest-only home loans
Last updated: 16 June 2025 | Estimated read time: 4 Minutes
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How does it work? | Interest-only vs P&I | Repayment options | Pros & Cons | How to apply | FAQs
One of the first calculations you may look to do as a wannabe homeowner (or investor) is to find out if you can afford repayments on a mortgage. And that’s why you may be considering an interest-only home loan, as they tend to offer lower initial repayments - but you’ll need to weight up the pros and cons first.
So, let’s look at what these loans are all about, so you can consider if they’re right for your situation.
How does an interest-only home loan work?
When you buy a property and take out a home or investment loan, it’s made up of two parts: the principal (your loan balance) and the interest (the amount charged by the lender based on the principal). Interest is calculated daily as a percentage of your principal and added to your balance every month.
An interest-only loan allows you to just pay off the interest part of the loan (plus any fees) – for a fixed amount of time. This means you’re not paying-off the principal, so the amount you borrowed doesn't reduce.
How interest-only home loans differ from principal and interest home loans
Interest-only home loan interest rates and repayment options
Interest-only home loan interest rates can be higher than for P&I home loans – so first crunch the numbers with an interest-only loan calculator to see what kinds of repayments you’ll need to budget for during the IO period and afterwards when the repayments increase to P&I payments.
It’s also worth noting that with a variable rate interest-only home loan your repayments can go up and down, so a fixed interest-only home loan may be worth considering if you want set repayments.
And don’t forget, your interest-only period is temporary – and when it ends, you’ll switch to paying off the principal and the interest, and start repaying the balance as well as the interest part of your loan, which means higher repayments over the remaining loan term.
Pros and Cons of interest-only home loans
The pros:
Lower monthly repayments during the temporary interest only period of the loan
During the interest-only period you can be strategic about funnelling extra funds into savings or paying-off debts
If your loan is for investment purposes, you may be able to claim tax deductions
And the cons:
Interest only loans are often set at higher interest rates than P&I loans, so you may pay more over the loan term
If your property doesn't increase in value you won't be building equity in your property. This could be a problem if you need to sell your property
Paying interest-only repayments means you won’t have redraw funds to access
When the interest-only period finishes, your P&I repayments will be higher for the rest of the loan term than if you’d paid P&I from the start. This is because the principal part needs to be paid off in a shorter amount of time.
Thinking of applying for an interest-only home loan
You need to compare lenders and loan options and decide which repayment type is better for you, gather the required documents together, and submit an application through your lender. Or you can speak to a broker to discuss your options.
Once you apply, the lender will consider your application including income, assets, liabilities and household expenses as well as your credit report to figure out if you meet their credit criteria including if you have the capacity to pay the loan over the interest only period – as well as the higher P&I repayments once the interest-only loan term ends.
Note: Some lenders do not offer interest-only loans for owner-occupied properties and will only consider applications for investment properties. If interest-only loans are available for owner-occupied properties, there may be additional criteria and assessments required.
Did you know we offer interest-only home loans?
Need help with your repayments? Let us know sooner rather than later.
Having trouble making loan repayments or worried about managing your repayments in the future? It’s important to contact us early so that we can understand your situation and discuss your options. You can read more in our Financial Assistance hub.
Quick FAQ about interest-only home loans
You’ll generally need a strong credit score, a stable income, low rates of existing debt and a sufficient deposit. You’ll also need to demonstrate you could service the loan once the interest-only period ends and it switches to the higher principal and interest (P&I) payments.
It depends on your borrowing power, the property being purchased and the lender’s credit criteria. A 20% deposit is a good rule of thumb.
Rates vary between lenders. Discover more about Pepper Money’s home loans.
It depends on the lender but can take weeks. Here’s some more information on Pepper Money’s home loan application process and the timeframes involved.
It’s important to contact your lender early to discuss your situation and options.
If your loan is with us, you can call us on 1800 185 914 (+61 2 7227 1517 from overseas) or you can read more in our Financial Assistance hub.
Contributor | Barry Saoud, General Manager, Mortgages and Commercial Lending
Barry joined Pepper Money in July 2021 as General Manager, Mortgages and Commercial Lending. He is responsible for the strategic direction and operating performance across product, credit, and settlements for mortgages, commercial loans, personal loans, and direct sales. Read more.
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