Interest-only and principal and interest repayments for investors

With principal and interest repayments, each instalment pays the interest charged and reduces the amount owed, so the loan is cleared by the end of its term. With interest-only repayments, the borrower pays only the interest for a set period, the balance does not fall, and the full principal must then be repaid over the years that remain. Interest-only repayments are lower at first, then higher later, and the total interest paid over the life of the loan is greater.

For investors the choice is mainly a trade between cash flow now and total cost and risk later. Interest-only loans often carry a higher rate, are assessed more conservatively by lenders, and have been the subject of regulatory limits in the past. This guide is general information only. A licensed credit adviser can discuss loan structures, and a registered tax agent can confirm the tax treatment.

How principal and interest repayments work

A principal and interest loan is amortising. The repayment is calculated so that the balance reaches zero at the end of the term, commonly 25 or 30 years. In the early years most of each repayment is interest. As the balance falls, the interest component shrinks and the principal component grows. The investor builds equity through repayments as well as through any rise in the property's value, and each dollar of principal repaid permanently lowers future interest. The mortgage repayment calculator shows this split for any loan size and rate.

How interest-only repayments work

During an interest-only period the required repayment equals the balance multiplied by the interest rate, divided across the year. The Reserve Bank of Australia (RBA) has described interest-only periods as typically around five years. At the end of the period the loan converts to principal and interest, unless the lender agrees to a further interest-only term. Because the term of the loan does not extend, the whole of the original principal must then be repaid over a shorter period, for example 25 years instead of 30.

The RBA has noted two main reasons investors choose this structure. Interest on investment loans is tax deductible, which reduces the incentive to repay principal, and keeping repayments low frees money for other purposes. The RBA has also observed that the structure keeps borrowers in debt for longer and leaves them more exposed to negative equity if property prices fall.

The interest-only rate premium and how lenders assess these loans

Lenders commonly price interest-only loans above equivalent principal and interest loans, and investor loans above owner-occupier loans. The RBA reported that from mid 2017 most banks raised interest-only rates to around 40 basis points above equivalent principal and interest loans. That figure describes 2017 and 2018. The current gap varies between lenders and can be checked on the home loan comparison page or with individual lenders.

Assessment is also stricter. APRA's guidance on residential mortgage lending, APG 223, states that lenders are expected to assess whether the borrower can meet principal and interest repayments over the term that remains after the interest-only period, and to apply a serviceability buffer of at least 3 percentage points over the loan rate. APRA confirmed in 2025 that the buffer remained at 3 percentage points. Because the principal is assessed over a shorter term, the maximum loan available on an interest-only basis is generally lower than on a principal and interest basis for the same income. The guidance also states that interest-only periods should be of limited duration, and that a prudent lender discounts expected rental income by at least 20 per cent. The borrowing power calculator gives a general indication of capacity.

APRA limits on interest-only and investor lending

Interest-only lending has been a particular focus for regulators. The history is useful context because the limits affected both pricing and availability.

When	Measure
2014	The RBA records that APRA required serviceability assessments for interest-only loans to assume principal repayments after the interest-only period, together with an interest rate buffer
March 2017	APRA introduced a temporary benchmark limiting interest-only lending to 30 per cent of new residential mortgage lending by authorised deposit-taking institutions
1 January 2019	APRA removed the interest-only benchmark, stating it had served its purpose. A separate benchmark on investor loan growth was also removed for lenders that met APRA's conditions
1 February 2026	APRA limited lending at debt-to-income ratios of six times or more to 20 per cent of new mortgage lending, applied separately to owner-occupier and investor portfolios

In July 2025 APRA stated that it had no limit on interest-only or investor lending in place, while naming such limits among the tools it could activate if risks increased. Investors should therefore not assume that an interest-only extension will be available on the same terms in five years. Lender policy, regulation and the borrower's own position may all have changed.

The repayment step-up when the interest-only period ends

The end of the interest-only period is the point of greatest risk. The RBA's 2018 analysis of a representative $400,000 loan found that required payments rose by around 30 to 40 per cent on conversion, or about $7,000 a year. The size of the increase depends on the rate and on how many years remain.

Illustrative worked example

Assume a hypothetical $600,000 investment loan over 30 years. The investor can choose principal and interest at an assumed 6.0 per cent, or five years of interest-only at an assumed 6.4 per cent, after which the loan converts to principal and interest at 6.0 per cent over the remaining 25 years. Rates are held constant for simplicity and are not a forecast or a current market rate.

Item	Principal and interest from the start	Five years interest-only, then principal and interest
Monthly repayment, years 1 to 5	$3,597	$3,200
Monthly repayment, years 6 to 30	$3,597	$3,866
Balance after five years	About $558,300	$600,000
Total interest over 30 years	About $695,000	About $751,700

The interest-only path saves about $397 a month for five years, roughly $23,800 in total. At conversion the repayment rises from $3,200 to $3,866, an increase of $666 a month or about 21 per cent, and close to $8,000 a year. Over the full term the interest-only path costs about $56,700 more in interest, and after five years the investor owes about $41,700 more than under the alternative.

If the interest-only period were ten years in place of five, the principal would have to be repaid over 20 years and the repayment would rise from $3,200 to about $4,299, an increase of about 34 per cent. Longer interest-only periods produce larger step-ups.

Options at the end of the interest-only period

The RBA lists the choices generally open to a borrower at expiry:

• Move to principal and interest repayments as scheduled
• Apply to extend the interest-only period with the current lender, which usually requires a new assessment
• Refinance with another lender, including to a longer principal and interest term to reduce repayments
• Draw on offset or redraw balances built up during the period
• Sell the property

The RBA's analysis identified borrowers with high loan to valuation ratios as the most vulnerable, because they may be unable to refinance or to clear the debt by selling.

Tax considerations for investors

Under ATO guidance, interest on money borrowed to buy a rental property is generally deductible while the property is rented or genuinely available for rent. Principal repayments are not deductible under either structure. An interest-only loan therefore keeps the deductible interest at its maximum, while a principal and interest loan steadily reduces it.

In the example, first year interest is $38,400 on the interest-only loan and about $35,800 on the principal and interest loan, a difference of about $2,600. For an investor on a combined marginal rate of 39 per cent, the additional deduction is worth about $1,014 in tax. The investor has still paid $2,600 more in interest to obtain it, leaving a net extra cost of about $1,586. A larger deduction is evidence of a larger expense, not a gain.

The tax setting is also changing. Treasury states that from 1 July 2027 negative gearing of residential property will be limited to new builds, with properties held before 7:30pm AEST on 12 May 2026 exempt. For an affected established property, a rental loss will only be deductible against other residential property income, including capital gains, with excess losses carried forward. Where losses cannot be offset against wages, the argument for maximising deductible interest is weaker. A registered tax agent can confirm how these rules apply.

One structure is often discussed by investors who also have a home loan: paying interest-only on the deductible investment debt and directing spare cash to the non-deductible home loan. Whether this suits a borrower depends on personal circumstances, and it should be tested with a licensed adviser and a tax agent.

Cash flow versus total cost: weighing the two structures

Consideration	Interest-only	Principal and interest
Repayments in the early years	Lower	Higher
Interest rate	Often higher	Often lower
Debt reduction	None unless extra payments are made	Built into every repayment
Total interest over the term	Higher	Lower
Repayment shock	Step-up at expiry	None from the structure itself
Exposure to a fall in property values	Higher, as the balance does not fall	Reduces over time

An offset account can soften the difference. The RBA has noted that money held in offset during an interest-only period can effectively reduce the balance on which interest is charged, which lowers the extra cost, but only if the borrower saves with discipline. The offset account calculator and the extra repayment calculator can be used to model either approach.

Common mistakes and what to check

• Treating the interest-only repayment as the true cost of the loan, and buying at a price that only works at that repayment.
• Assuming the interest-only period can always be rolled over.
• Ignoring the rate premium when comparing loans.
• Having no plan for the spare cash flow. If it is spent instead of saved or invested, the structure only adds cost.
• Overlooking the conversion date. Borrowers may wish to note the expiry, calculate the new repayment at least twelve months ahead, and begin paying the higher amount early to test the budget.

Further guides for investors are in the investment property section, and the interest rates section explains how loan rates are set.