An interest-only loan is a loan in which for a set term the borrower pays only the interest on the principal balance, with the principal balance unchanged. At the end of the interest-only term the borrower may enter an interest-only mortgage, pay the principal, or (with some lenders) convert the loan to a principal and interest payment (or amortized) loan at his/her option.

US interest only loan In the United States, a five or ten year interest-only period is typical. After this time, the principal balance is amortized for the remaining term. In other words, if a borrower had a thirty-year mortgage loan and the first ten years were interest only, at the end of the first ten years, the principal balance would be amortized for the remaining period of twenty years. The practical result is that the early payments (in the interest-only period) are substantially lower than the later payments. This gives the borrower more flexibility because they are not forced to make payments towards principal. Indeed, it also enables a borrower who expects to increase their salary substantially over the course of the loan to borrow more than they would have otherwise been able to afford, or investors to generate cashflow when they might not otherwise be able to. During the interest only years of the mortgage, the loan balance will not decrease unless the borrower makes additional payments towards principal.

UK interest only loanInterest-only loans are popular ways of borrowing money to buy an asset that is unlikely to depreciate much and which can be sold at the end of the loan to repay the capital. For example, second homes, or properties bought for letting to others. In the United Kingdom in the 1980s and 1990s a popular way to buy a house was to combine an interest-only loan with an endowment policy, the combination being known as an endowment mortgage. Homeowners were told that the endowment policy would cover the mortgage and provide a lump sum in addition. Many of these endowment policies were poorly managed and failed to deliver the promised amounts, some of which did not even cover the cost of the mortgage. This mis-selling, combined with the poor stock market performance of the late 1990s, has resulted in endowment loan becoming unpopular.

Canadian interest only loan Some interest-only loan in Canada allow the borrower to pay interest-only, principal and interest, or even principal and interest plus 20% extra. An interest-only mortgage in Canada can be combined with corporate bonds in a Registered Retirement Savings Plan (RRSP) where the plan holder receives a tax deduction, tax deferral, and compound interest.