It is possible to refinance almost any kind of loan. Interest Only loans are not the exception to this rule. However, you may wonder in which situations refinancing an Interest Only Loan is monetarily convenient and how should you carry out this financial operation.
Interest Only Loans
An interest only loan is a loan where the borrower requests a fixed amount of money and the monthly payments consist only on interests on the principal. The principal is not reimbursed to the lender till the end of the loan term. Thus, monthly payments are low but at the end of the loan duration, the principal has to be repaid in full.
There are variations of this kind of loan where after a certain period of time the interest only installments turn into principle & interest” installments and thus the principal is also returned in monthly payments. In any case, the amortization of the loan is delayed either till the end of the loan term or till a certain amount of interest only installments have been made.
When is refinancing an Interest Only Loan functional?
Since refinancing consists on getting approved for a loan in order to repay an outstanding loan, not only an amount on interests but the whole principal of the Interest Only Loan will be reimbursed. The following are the main situations in which you would need or want to do so:
Interest Only Loans carry high interest rates and thus it is easy to refinance such a loan and get a regular loan in return with considerably lower interest rates. Interest only loans are also for a short term of two to five years. If you have built yourself an income before you expected and can now afford monthly payments that include both principal and interests, you may want to refinance your loan in order to get a better rate and probably a longer repayment schedule.
If the time for repaying the loan’s principal is approaching and you’ve not saved enough money to reimburse it, you’ll need to refinance the loan. In this case you can either refinance your loan with another interest only loan or with a regular loan. If you choose an interest only loan, you’d probably want to contact the same lender that granted you your current loan as it will doubtless be cheaper to refinance with your existing loan lender than with another financial institution.
If you choose to refinance your interest only loan with a regular loan, you need to make sure that your income will let you afford the new monthly payments that will include both principal and interests. Nevertheless, you’ll be able to select a longer loan length and thus reduce your monthly payments. Regular loan’s terms can last up to 12 years or even more.
Watch for pre-cancellation punishment fees
Bear in mind that some loans charge penalty fees when you choose to pre-cancel the loan in full. Take this into consideration before contemplating the possibility to refinance your Interest Only Loan as these fees usually consist of large amounts. This is due to the fact that the lender is covering for what he will stop gaining from interests.