Interest only or principal and interest: which one should I pick?

Bayley Clarke · Mortgage broker on the road · Last checked 12 November 2026 · 8 min read

The short answer

For a home you live in, principal and interest is almost always the default. For an investment property, interest only can make sense, as long as you know what it costs and what happens when it ends.

Principal and interest pays the loan down with every repayment. Interest only keeps the repayment lower by paying just the interest, but it usually comes at a higher rate, the balance doesn't move, and the repayment jumps when the period ends. The real question is which debt you want to be paying down, and that's where owner-occupied and investment loans split.

Interest only vs principal and interest: the side by side

Principal and interest means every repayment covers that month's interest plus a slice of the loan itself. The balance comes down, slowly at first and faster later, and you build equity through repayments as well as any growth in value.

Interest only means the repayment covers the interest and nothing else, for a set period, generally a few years at a time. The repayment is lower, which helps cash flow. But banks generally charge a loading for it, because you're not paying any debt down, so on rate alone it costs more, and over the life of the loan you pay more interest too. When the period ends, the loan rolls onto principal and interest over the years that are left, not the full original term, so the repayment can jump by more than people expect: Interest only: what does it cost, what happens when it ends, and can I switch back?

Two things people don't realise. You can usually switch back to principal and interest at any time, you don't have to wait for the period to finish. And extending interest only is generally a fresh assessment of your finances, not a tick box, so it's worth lining up the end well before it arrives.

Not sure which setting fits your loans?

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Interest only on a home you live in

For an owner-occupied loan, interest only is hard to justify for long. The interest isn't deductible, the rate gap is often wider than on investment loans, and you're not building any equity through repayments. It has its place as a short-term breather: a parental leave stretch, a build, a business finding its feet. As a long-term setting on the home you live in, it mostly means paying more to owe the same.

If you're buying with the 5% Deposit Scheme, it isn't an option anyway. The scheme requires principal and interest repayments, with interest only only allowed during a construction period on a new build.

If what you actually want is a lower minimum with the freedom to pay more, a longer term on principal and interest often does that job better. Set it up on 30 years, pay it like 20 when you can, and fall back to the minimum when you can't: Should I take a 30 year loan term, or one that's shorter?

Interest only on an investment property

This is where interest only earns its keep. The repayment on the investment loan is smaller, so the property costs you less each month to hold, and your cash flow improves. That can be the difference between an investment that's comfortable to own and one that squeezes you every month. It's why we compare cash flow, not just the rate.

The structure most investors land on is simple. Interest only on the investment loan, which is generally the deductible debt, and principal and interest on the home loan, which isn't, with every spare dollar thrown at the home. The rent can go straight into the offset on your home loan, cutting the interest on the debt you can't claim, and the investment bills can come out of that same account: Can rent from my investment property go into the offset against my home loan?

How interest is treated at tax time is your accountant's call, not mine. I set the loans up so the line between the two stays clean. The wider investor picture lives in Investment property loans: how the bank sees your first one, or your fourth

Offset, redraw and keeping the investment loan clean

Here's the trap. If you pay extra into an investment loan and later redraw it for personal spending, you've changed the purpose of part of that debt. A $500,000 investment loan with $25,000 redrawn for a car becomes $475,000 of investment debt and $25,000 of car debt in one facility, and your accountant has to untangle it. Park spare cash in an offset instead and the loan never moves, so taking the money out is just spending your own savings: Can I use redraw on my investment loan?

That's one more reason interest only and an offset tend to sit together on investment loans. The repayment stays low, the cash stays accessible, and the debt stays what it was borrowed for.

Split loans and debt recycling

You don't have to pick one setting for the whole lot. A split loan is your lending in parts, and each part can have its own repayment type, term and purpose. Investment money in its own split, the home loan in another, maybe a fixed portion and a variable one. More splits isn't better, but the right ones keep the purposes separate: What is a split loan, and how do people use it?

Debt recycling is the strategy that uses this most deliberately. Instead of putting cash down as a deposit on an investment, you pay it off the home loan, redraw it into its own split, and use that as the deposit. You owe the same amount, but part of it is now investment debt. It needs redraw on the home loan and a lender happy to split, and it needs your accountant's view before you start: What is debt recycling, and how does it help me buy an investment property?

The honest part

Interest only isn't a trick and it isn't a trap. It's a cash flow tool with a price. On an investment, that price is often worth paying. On the home you live in, it usually isn't for long. The people who get hurt are the ones who never planned for the day it ends.

Set up the structure before you need it

Tell me what you own, what you owe and what you're planning next. I'll line up the repayment types, splits and offsets across the lenders so the structure works now and later.

Book a 30 minute call Call 0437 189 939

No application, no credit check, nothing on your file. Just the numbers.

Common questions about interest only vs principal and interest

Is interest only or principal and interest better?+

For a home you live in, principal and interest is usually the better long-term choice because you build equity and the rate is generally lower. For an investment property, interest only can help cash flow while you focus on paying down the home loan, if you plan for the day it ends.

Is interest only more expensive?+

Generally, yes. Banks usually charge a higher rate for interest only than for the same loan on principal and interest, and because the balance doesn't fall, you pay more interest over the life of the loan.

What happens when an interest only period ends?+

The loan rolls onto principal and interest over the years left on the loan, so the repayment can rise more than expected. Extending interest only usually means a fresh assessment, so it's worth planning a few months ahead.

Can I switch from interest only back to principal and interest?+

Usually yes, at any time. You ask the bank to change the repayment type, and it's typically done from the next repayment. You don't have to wait for the interest only period to finish.

Can I get interest only with the 5% Deposit Scheme?+

No. Loans under the 5% Deposit Scheme need principal and interest repayments. The only exception is a construction period on a new build, which may include interest only payments.

Next question

Investment property loans

How the bank sees your first investment, or your fourth, and how to structure it.