Loan structure where scheduled payments cover interest for a period while principal repayment is deferred to later amortization or maturity.
An interest-only loan is a loan structure in which scheduled payments cover interest for a defined period while principal repayment is deferred until later.
Interest-only loans matter because they lower early-period payments without actually reducing the debt balance. That can help cash flow in the short run, but it increases payment-shock and refinancing risk once principal repayment begins or maturity arrives.
During the interest-only phase, the required payment is usually just:
Where:
P is the outstanding principal
r is the periodic interest rate
After the interest-only period, the structure usually does one of two things:
converts into amortizing payments over the remaining term
leaves a large maturity balance that must be repaid or refinanced
| Structure | During early period | What happens later |
| — | — | — |
| Interest-only loan | Interest is paid, principal stays outstanding | Converts to amortization or remains due later |
| Balloon loan | Some or little principal may be repaid | Large remaining balance due at maturity |
| Fully amortizing loan | Principal and interest are paid from the start | Balance steadily falls to zero |
A borrower takes a ten-year loan with a three-year interest-only period. For the first three years, payments cover interest only, so the balance does not shrink. After that, the borrower either begins repaying principal over the remaining seven years or refinances into a new structure.
Some interest-only loans later convert into fully amortizing payments. Others still leave a maturity balance. The interest-only feature describes the early payment phase, not the entire life-cycle outcome by itself.
Once amortization begins, the borrower may face much higher scheduled payments because the same principal must be repaid over a shorter remaining period.
Balloon Loan: May combine deferred principal with a large end balance.
Balloon Payment: The final balance that may remain after an interest-only phase.
Bullet Repayment: A maturity-focused repayment pattern that can coexist with interest-only cash flows.
Interest-Only Mortgage: A mortgage-specific application of the same structure.
Amortizing Loan: A structure that reduces principal from the first scheduled payment.