When choosing between Principle and Interest vs Interest Only for your investment loan, the decision isn’t always straightforward. This blog explores which option may be better for your financial goals and circumstances.
Understanding Principle and Interest (P&I) and Interest Only (IO)
Choosing the right repayment method can significantly impact your finances. With Principle and Interest, you pay off both the loan amount and the interest, while with Interest Only, you pay only the interest for a set period. Both options have pros and cons depending on your investment strategy.
Key Factors to Consider
Let’s break down the math to understand the difference:
| Loan Details | Interest Rates | Monthly Payments |
| Owner Occupied | 4% | Offset savings apply |
| IO Investment | 5% | Interest Only |
| P&I Investment | 4.8% | $2,623 |
Using the Excel PMT formula, we calculate the monthly payments for a $500,000 loan over 30 years at 4.8% interest:
=PMT(4.8%/12, 30*12, 500000)
The result is $2,623 monthly or $31,480 annually, which cannot offset at an Owner Occupied rate of 4%. This results in a $1,259 yearly loss.
Comparing Tax Implications
For investors, tax deductions play a crucial role. If the P&I rate is lower, it might initially seem like the better option. However, after factoring in tax deductions, the Interest Only option might offer better savings. For example:
- P&I at 4.8% interest = $16,800/year
- IO at 5% interest = $17,500/year
- Yearly difference = $700
Even though P&I costs $559 more annually after offset loss, the tax deduction could make IO more favorable. However, the difference might be minimal compared to other factors, such as your long-term investment goals and cash flow needs.
Conclusion
When weighing Principle and Interest vs Interest Only, it’s essential to consider interest rates, tax implications, and how each option aligns with your financial strategy. While IO offers short-term savings, P&I could reduce debt faster in the long run. Consult a financial advisor to determine the best choice for your specific situation.
For more insights on investment strategies, visit trusted financial resources like Investopedia.