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In October 2017, UBS carried out a survey of 900 borrowers that disclosed some stunning facts, including the shocking revelation that up to a third of borrowers with interest-only (IO) loans are not aware of the financial product on their hands. It means that one in three interest-only borrowers are not aware that their mortgage repayments would increase dramatically once the interest-only period comes to an end, leading to considerable financial stress.

 
Stunning facts about Interest Only Loans
 

Besides, UBS also found that the interest rates rose by almost three-quarters of a percentage point for investors and half a percentage point for owner occupiers, leading to financial stress for 71 percent of interest-only borrowers.


Is debt always evil?

Interest-only or IO loans represent an interesting financial product, which has helped many Australians find feet in the property market through lower repayments and tax benefits that ensure a better cash flow for a few years. Interestingly, in the recent years, several first home buyers also turned to IO loans to fund their homes, in search of better cash flow and more flexibility regarding finances. Sounds great, doesn’t it? But new research points out 71 percent Australians would not opt for an IO loan, despite some of them acknowledging the benefits. Yes, the 2017 Mortgage Holders Sentiment Report revealed that 46% of Australians were ‘adamant decliners’ of interest-only loans.

Considering that 38 percent respondents admitted to having no understanding of interest-only repayments in the survey conducted by UBS earlier in 2017, the recent Mortgage Holders report shows that Australians are moving in the right direction, understanding the implications of an IO loan better. According to the report, 46 percent Australians chose not to take IO loans, as it led to increased debt according to them, while 25 percent were ‘resistant approvers’, consciously staying away from IO loans despite acknowledging the benefits. Out of the remaining 29 percent, less than half (11 percent) used IO loans, even though they considered these loans bad for their finances, and 18 percent comprised the ‘enthusiastic users’, who used IO loans for improving their cash flow.

Not surprisingly, Gen Y comprised the majority of enthusiastic users while Baby Boomers formed the bulk of adamant decliners.


Should you opt for an IO loan?

As APRA came cracking down on investment lending, the number of ‘enthusiastic users’, according to the above survey, came down by 4 percent over the past five years. This move is generally considered positive, as, given the low interest rates available currently, it makes sense to pay off your principal and reduce your debt before the rates hike. However, for some investors, and probably some owner-occupiers, too, an IO loan could provide the much-needed financial flexibility apart from better cash flow, thanks to lower repayments and tax benefits.

According to mortgage experts, IO loans could be helpful in certain situations, and using an IO loan with an offset account could be an efficient way to manage your finances better. However, borrowers must fully understand how interest-only repayments work and be prepared to make 30-60 percent higher monthly repayments once the interest-only period ends. For most owner occupiers, a traditional principal and interest loan, with added features such as an offset account and flexible repayments, remains the best option. But if you feel an IO loan is better suited to your financial strategy, we strongly recommend you recalculate the costs and get in touch with a mortgage broker to discuss your requirement in detail. You can have your home loan queries answered online by experts, here.

At HashChing, we bring you broker pre-negotiated home loan deals from over 60 lenders across Australia, updated every week. Compare home loans online to get the most competitive home loan rates in the market.

 

By Vidhu Bajaj,
HashChing Content Writer

 

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