How to Calculate an Interest Only Loan
Let's face it, getting a small business of the ground can be tough. Sometimes you need more operating capital in order to drive your business to success. Interest only loans may seem attractive because initially you only repay the interest. However, once the initial loan period is up, the monthly payments increase. If you really want to see the costs associated with borrowing money, Let's calculate an interest only loan.
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Instructions
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Gather the hard data about the interest only loan that you are considering. You need to know the loan's interest rate, as well as the length of time that you will not be paying down the principal, the interest only period of the loan.
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Take the principal amount of the loan and multiply it by the interest rate. For example, if a bank offered you $250,000 at a fixed rate of four and a half percent, the principal would yield $11,250 per year.
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Multiply the annual interest yield by the total term of the loan. For most interest only loans, this term is 30 years. So, to continue the example, an $11,250 annual yield times a 30 year period results in $337,500 in interest charges. This is the cost of the loan.
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Divide the cost of the loan by the number of months in the term to get the monthly interest payment. During the interest only period of the loan, this number will represent your monthly payment. $337,500 in interest costs divided by 360 months in the interest only loan's term results in a monthly payment of $937.50. Ouch.
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Calculate the amortized payment. To do this, divide the principal by the number of months remaining in the term once the interest only period has expired. For most interest only loans, this 15 years out of a 30 year term. $250,000 divided by 180 months gives a monthly amortized payment of $1388.89
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Add the amortized payment to the interest payment to find the maximum payment. This is the total you need to know before applying for an interest only loan. This payment will kick in when the interest only period of the loan expires. $1388.89 plus an interest payment of $937.50 gives a total maximum payment of $2326.39. Double ouch.
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Tips & Warnings
Interest only loans are a common type of mortgage loan. The standard life of the loan is usually thirty years. For the first fifteen years, the recipient pays only interest on the principal. After that time, the recipient pays interest plus principal until the loan is paid off. The amortization rate, the length of time before repayment of the principal begins, can vary.
Carefully read any financial agreement before signing off on the debt. Read the fine print and re-read it until you fully understand your rights and responsibilities under the financial contract.
Other factors may affect the total cost of the loan, such as adjustments to interest rates, fluctuations in the prime rate and other factors.
