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What is a principal & interest home loan?

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What is ‘principal and interest’?

Principal and interest are the key components of your home loan repayments. The principal is the loan amount you borrowed from the lender to purchase your property.

Meanwhile, the interest is the cost of borrowing the principal. The total interest you pay over the life of the loan depends on the interest rates, loan term, type of loan, and other factors.

Principal & Interest home loans explained

If you’re new to the world of mortgages, don’t worry. Below we explain the basics of principal and interest home loans and how they can benefit you.

What is a principal and interest loan?

This is a home loan where repayments consist of both principal and interest. As a borrower, you pay the principal amount plus interest at the same time from the start of the loan.

Principal and interest loans have a specified loan term usually up to 30 years. Lenders will decide the minimum principal and interest repayment amount needed to ensure you pay back your loan balance and the corresponding interest within the loan term.

Advantages of principal and interest loan repayments

Principal and interest loans are popular among borrowers and for good reason. Here are some of the benefits of a principal and interest home loan:

  • Steadily reduce the principal owing and pay off your debt faster. You can pay off your mortgage and own your property outright sooner because your repayments include the principal as well as interest.
  • Reduce the interest you’ll pay throughout your loan. With every repayment, you’re chipping away at your principal. The less principal you owe, the less interest you pay.
  • Potential equity growth. Home equity is the difference between the market value of a property and how much you owe. Therefore, the more the principal balance you repay, the more equity you'll have in your home.

What is the difference between ‘principal and interest’ and ‘interest-only’ loans?

When you take out an interest-only home loan, your initial repayments only cover the interest charged on the loan, while your principal balance borrowed remains the same. It’s different from a principal and interest home loan where your repayments go towards both the principal amount owed and interest fees.

With an interest-only loan, there is an interest-only period, typically between one to five years, where you only pay off the interest. Because you’re not making payments towards your principal, the regular interest-only repayments are significantly less.

However, the interest continues to accrue against your full loan balance. Your principal and interest repayments after the interest-only period will likely be higher as you will have to pay back your principal balance in a shorter term.

Principal & Interest Home Loan vs Interest-Only Home Loan

When it comes to mortgage repayment options, you can choose from principal & interest home loans and interest-only home loans. Both loans have pros and cons, it all depends on which one suits your situation best.

If you’re still figuring out which loan option to choose, here are the differences between principal and interest and interest-only home loans:

Advantages Disadvantages Ideal for
Principal and Interest Home Loan
  • Pay off your mortgage more quickly 

  • Pay less interest over the life of the loan 

  • Could have better interest rates compared to interest-only loans 

  • Easier to build equity with a principal and interest home loan 

  • Higher repayment amount compared to interest-only loans 

Interest-Only Home Loan
  • Low repayments during interest-only period 

  • Interest-only repayments could be tax-deductible 

  • For investors, lower repayments mean less money out of pocket 

  • Could have higher interest rates 

  • Takes longer to pay off the home loan 

  • The overall cost of the loan could be higher 

Property investors 

Looking for the perfect home loan?

Let loans.com.au help! Our friendly lending specialists are more than happy to talk you through our range of low-rate home loans. We can help you find the ideal loan for your situation. If you’re ready to start your home-buying journey, apply for a home loan online!

About the article

As Australia's leading online lender, loans.com.au has been helping people into their dream homes and cars for more than 10 years. Our content is written and reviewed by experienced financial experts. The information we provide is general in nature and does not take into account your personal objectives or needs. If you'd like to chat to one of our lending specialists about a home or car loan, contact us on Live Chat or by calling 13 10 90.

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