Interest-Only Loans: Who They Suit and Who They Trap
ADS Team
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August 5, 2026
about 1 month ago
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In short: An interest-only loan means your repayment covers interest alone, so the balance never reduces. It suits investors maximising deductible interest and borrowers with genuinely temporary cash-flow needs. The trap is reversion: when the interest-only period ends, principal and interest is calculated over the shortened remaining term, which produces a substantial jump.
Key takeaways
- The balance does not reduce, so you build no equity through repayments.
- At reversion, P&I is calculated over the remaining term, not a fresh 30 years.
- On a $600,000 loan, a 5-year IO period lifts the later repayment by roughly $560 a month.
- Interest-only periods are typically capped at five years for owner-occupiers.
The payment shock, quantified
A $600,000 loan at 6.5% over a 30-year term:
| Period | Repayment | Balance at end |
|---|---|---|
| P&I from the start | $3,792 | Reducing from day one |
| Interest-only, years 1-5 | $3,250 | $600,000 - unchanged |
| P&I, years 6-30 (25 years left) | $4,051 | Repaid at year 30 |
The saving during the IO period is $542 a month. The cost afterwards is $259 a month more than had you never taken IO - plus roughly $97,500 of extra interest over the full term.
When it genuinely makes sense
- Investment property - maximises deductible interest while you direct spare cash at non-deductible home debt.
- Construction - you are paying rent and interest simultaneously during the build.
- Genuinely temporary income reduction - parental leave, a planned career change - where the situation has a known end date.
- Bridging, where the loan is short-term by design.
When it is a trap
Interest-only used to afford a property you could not otherwise afford is borrowing against your future self. At reversion the repayment rises, and nothing about your position has improved - the balance is exactly where it started.
Rolling the interest-only period repeatedly compounds it: each renewal shortens the remaining term over which the principal must eventually be repaid, so the eventual P&I repayment gets larger every time.
Frequently asked questions
Can I extend the interest-only period?
Sometimes, subject to a fresh serviceability assessment - and lenders assess you on the P&I repayment over the shortened remaining term, which is exactly the thing extending makes harder.
Do interest-only loans cost more?
Usually yes, both in a higher rate and in more total interest, because the balance stays high for longer. APRA has also encouraged lenders to price interest-only above P&I.
Can I make extra repayments on an interest-only loan?
Generally yes on a variable loan, and doing so reduces the balance and the eventual reversion shock. Fixed interest-only loans usually cap extra repayments.
Related reading
- Investment Property Loans: What Is Different
- The Home Loan Repayment Formula, Worked Step by Step
- Rentvesting: Buying Where You Can Afford, Living Where You Want
Sources
- Interest-only home loans — ASIC Moneysmart
- Prudential Practice Guide APG 223 — APRA
Rates checked as at 2 September 2026. Interest rates, lender policies and government schemes change frequently. Figures in this article are illustrative and were accurate at the date shown.
General advice warning: This article contains general information only. It does not take into account your objectives, financial situation or needs, and it is not personal credit or financial advice. Consider whether it is appropriate for you and seek advice from a licensed credit representative before acting.
Any interest rate shown is an example only and is not an offer of credit. Where a rate is quoted, the applicable comparison rate is available from the relevant lender and should be considered alongside it.
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