The two main methods of repaying a home loan are making principal and interest payments, or paying interest only.
Principal and interest repayments
Paying off principal and interest means that there are two parts to your payment — the first is the repayment of the principal itself, the second is the interest accrued.
To begin with, you’ll mostly pay interest. But as time passes and you chip away at the loan, you’ll start paying a greater percentage of the principal.
With interest-only repayments, you defer the repayment of your loan principal for a set period (usually the first 5 or 10 years). Once the agreed interest-only period ends, you’ll start repaying your principal.
There are two ways you can do this. You might pay it off each month (in arrears), or once a year (in advance). ‘In arrears’ is usually at the end of each month; ‘in advance’ is in that year’s first month.
Paying interest in advance could help bring forward tax-deductible interest payments (which may reduce your taxable income). As always, it's a good idea to run this past your accountant first.
There are risks involved with getting an interest only repayment loan. For example, if your property declines in value during the interest only period, you could come out with no equity. Meaning, you may end up owing more than the property is worth.
We have a more detailed explanation and case study to help demonstrate the differences in our article interest only vs. principal and interest repayments.
Australian Securities and Investments Commission has some useful information if you’re interested in using an interest only repayment period as part of the loan term. Check out their MoneySmart guidance for some easy to follow info graphics about the pitfalls and benefits of this type of lending structure.
They also have examples of how much you can expect to pay for this type of loan.