Interest-only loans allow you to pay just the interest for a period—lowering initial payments but building no equity. This calculator helps you understand the true cost and risks of interest-only financing.
How This Calculator Works
This calculator analyzes interest-only loan scenarios:
- Loan Amount: Principal balance
- Interest Rate: Annual rate (APR)
- Interest-Only Period: Years of interest-only payments
- Full Term: Total loan length
- Interest-Only Payment: Payment during initial period
- Amortizing Payment: Payment after interest-only period ends
The Formula Explained
Interest-Only Payment = Loan Balance × (Annual Rate / 12)
Example: $400,000 × (6% / 12) = $2,000/month
After the interest-only period, the remaining balance must amortize over the remaining term, causing payment shock—often 30-50% higher payments.
Step-by-Step Example
$400,000 Interest-Only Mortgage at 6%
| Phase | Years | Monthly Payment | Principal Paid |
| Interest-Only | 1-10 | $2,000 | $0 |
| Amortizing | 11-30 | $2,865 | $400,000 |
Key insight: After 10 years of payments totaling $240,000, you still owe the full $400,000!
Frequently Asked Questions
What is an interest-only loan?
An interest-only loan allows you to pay only the interest charges for an initial period (typically 5-10 years). You build no equity during this period—your balance stays the same. After the interest-only period ends, payments jump as you begin paying principal plus interest.
Who uses interest-only loans?
Common users: (1) Investors planning to sell before the I/O period ends, (2) High earners with irregular income (bonuses, commissions), (3) Buyers in expensive markets seeking affordability, (4) Financially sophisticated borrowers with clear exit strategies. They're risky for average homebuyers.
What is payment shock?
Payment shock is the significant payment increase when the interest-only period ends. A $2,000 I/O payment might become $2,800-$3,200 when amortization begins. Many borrowers who can't afford the higher payment are forced to refinance or sell. Plan for this before taking an I/O loan.
How much higher are payments after the interest-only period?
After I/O ends, you must pay off the full principal in the remaining term. Payments typically increase 30-50% or more. Example: 10-year I/O on a 30-year loan means 20 years to pay off the principal—much faster amortization than a normal 30-year schedule.
Do I build any equity with an interest-only loan?
Not through payments—your balance stays the same during the I/O period. You only build equity through: (1) Home appreciation (not guaranteed), (2) Making extra principal payments voluntarily. If home values drop, you may become underwater (owing more than home is worth).
What are the risks of interest-only loans?
Major risks: (1) Payment shock when I/O ends, (2) No equity buildup, (3) Market risk—value drops leave you underwater, (4) Rate risk if adjustable-rate, (5) Refinancing risk—may not qualify when I/O ends. These loans contributed significantly to the 2008 housing crisis.
When might an interest-only loan make sense?
Possibly appropriate when: (1) You have irregular income (bonuses) and will pay extra principal when possible, (2) You're certain to sell before I/O ends, (3) For investment properties with strong cash flow, (4) You're financially sophisticated with a clear strategy. Not recommended for primary homes of typical buyers.
Can I make principal payments during the interest-only period?
Yes—interest-only is the minimum payment, not the maximum. You can voluntarily pay extra toward principal anytime. This is wise if you can afford it, building equity and reducing the eventual amortizing payment. Some borrowers treat I/O as flexibility rather than default behavior.
Key Points to Remember
- Zero equity buildup: You owe the same after years of payments
- Payment shock is real: Budget for the eventual increase
- Not for typical homebuyers: Designed for specific financial situations
- Market risk: Requires property appreciation to build equity
- Have an exit plan: Know how you'll handle the end of I/O period