Interest-only repayments lower your short-term cash outflow and maximise the deductible interest portion against rental income, but build no equity and cost more in total interest over the life of the loan. Principal and interest repayments cost more per month but reduce your loan balance and total interest paid. The right choice depends on your cash flow needs, investment horizon, and tax position.
How the Two Options Compare
| Factor | Interest-Only | Principal & Interest |
|---|---|---|
| Monthly repayment | Lower during IO period | Higher from day one |
| Equity built | None during IO period (excl. value growth) | Increases with every repayment |
| Total interest over loan life | Higher | Lower |
| Common use case | Investors prioritising cash flow / deductibility | Owner-occupiers, or investors building equity faster |
Cash Flow and Tax Considerations
Interest-only repayments are entirely interest, and interest on an investment loan is generally tax-deductible against your rental income. This is part of why some investors use interest-only structures — it can maximise the deductible portion of a repayment during the interest-only period, contributing to a negative gearing position where deductible expenses exceed rental income.
With principal and interest, only the interest component is generally deductible; the principal repayment is not a tax deduction, it's debt reduction. This means P&I typically produces a smaller deduction but builds equity that IO does not.
What Happens When the Interest-Only Period Ends
Interest-only periods commonly run 1-5 years. When the period ends, repayments step up to cover both principal and interest over the remaining term — often a noticeable jump. Plan for this in advance: options include refinancing, requesting an extension (subject to lender approval and serviceability), or simply budgeting for the higher repayment from the outset.
Frequently Asked Questions
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