How to use the interest only loan calculator
- Enter the loan amount and interest rate.
- Enter the interest-only period in years and the total loan term in years. The term includes the interest-only years.
- Optionally open More options and enter a different rate for after the interest-only period to see the effect of an adjustable rate.
- Read the interest-only payment, the larger payment that follows, the payment increase and the table that compares total interest with a standard loan.
Formula
Interest-only payment = balance x rate / 12
Payment after = L x i / (1 - (1 + i)^-m), with L the full balance and m the months left
Payment increase = payment after - interest-only payment
Extra interest = total interest of this loan - total interest of a standard loan
During the interest-only years the balance does not fall. Interest is rounded to the cent each month, and the final payment clears the balance to $0.00.
Worked example
Borrow $300,000 at 7% for 30 years with 5 years interest-only. The payment for the first five years is 300,000 x 7% / 12 = $1,750.00, and you still owe $300,000 afterward.
The remaining 25 years repay the full balance, so the payment becomes $2,120.34, an increase of $370.34 or 21.2%. Interest in the first five years alone is $105,000, and total interest is $441,100.16.
A standard 30-year loan at 7% has a payment of $1,995.91 and total interest of $418,524.05, so the interest-only structure costs $22,576.11 more. If the rate rose to 9% after year five, the later payment would be $2,517.59.
Payment shock
The jump from the interest-only payment to the amortizing payment is often called payment shock. It is larger than people expect because the same balance must now be repaid over fewer years. In the example, shortening the repayment window from 30 years to 25 raises the payment by about a fifth even at an unchanged rate.
If the rate also changes, as with an adjustable loan, the increase can be bigger. Use the optional rate field to test a higher rate, and make sure you could afford the later payment, not just the first one.
Why people choose interest-only loans
A lower early payment can help with irregular income, a planned sale, or investing the difference. The tradeoff is that you build no equity through payments during those years and you pay more interest overall, as the comparison table shows. Lenders also set their own rules about who qualifies, and many loans of this type have additional features that this tool does not model.
To see a standard payoff in detail, use the amortization schedule calculator. For a standard home loan estimate, use the mortgage calculator.
What the table and CSV show
The yearly summary lists payments, principal, interest and ending balance for each year. In the interest-only years principal is $0 and the balance stays flat. The CSV has every month so you can check the switch at the end of the interest-only period.
Assumptions and limits
- Both payments cover principal and interest only. Taxes, insurance, mortgage insurance and fees are not included.
- The rate is fixed unless you enter a different rate for the later years, and it changes once, at the end of the interest-only period.
- The interest-only period must be shorter than the term. Loans that end with one large balloon payment are not modeled.
- Interest is calculated monthly at the rate divided by 12 and rounded to the cent. The final payment clears the balance.
- Lender eligibility rules, prepayments and rate caps are not modeled.
- The comparison loan uses the same amount, first rate and term, paid down from the first month.
Frequently asked questions
How is an interest-only payment calculated?
Multiply the balance by the yearly rate and divide by 12. For $300,000 at 7% that is $1,750 a month. The payment is the same each month because the balance does not change during the interest-only years.
What happens when the interest-only period ends?
The loan starts amortizing. You must repay the whole original balance over the years that remain, so the payment rises, in the example from $1,750.00 to $2,120.34 a month.
Is an interest-only loan more expensive overall?
Usually yes at the same rate, because the balance stays higher for longer. In the example you pay $22,576.11 more interest than on a standard 30-year loan, though the early payments are lower.
Does paying only interest build equity?
Not through the payments. Equity grows only if the home value rises or you pay extra principal. This tool shows the balance staying at the full amount until the interest-only years end.
Can I see what happens if the rate goes up later?
Yes. Open More options and enter a rate for after the interest-only period. The payment after, total interest and the payment increase update, while the standard loan comparison keeps the first rate.