Key Highlights
- Interest only saves $467/month on a $600,000 investment loan at 6.5% but after tax the real weekly cost difference is just $8/week
- After five years of IO repayments, you still owe the full $600,000. A P&I borrower on the same loan owes $27,000 less usable equity for the next purchase
- At the 37% tax bracket, the ATO subsidises $14,430 of your annual interest bill. At 45%, that rises to $17,550 which is nearly half the interest cost
- IO beats P&I by $12,400 over five years when the monthly saving is redirected to a PPOR offset account but produces a $14,900 disadvantage when the saving is spent
- Banks have a structural incentive to recommend interest only. A broker’s recommendation is built around your tax position and strategy, not the lender’s revenue
Interest Only vs Principal and Interest: Which Is Right for Your Investment Loan?
The question comes up in almost every investment loan conversation. You have found the property, you know your borrowing capacity, and now your broker or lender is asking: do you want interest only or principal and interest?
Most borrowers pick one without fully understanding what they are choosing. Some pick interest only because the repayments are lower and it feels like a smarter move for an investment. Others pick principal and interest because paying down debt feels responsible. Both instincts can lead to the wrong outcome.
This guide explains how each repayment type works, what it means for your cashflow, your tax position, and your long-term investment strategy including a worked example across two different income brackets at current rates.
Stanford Financial
Loan balance over time: P&I vs interest only
$600,000 investment loan · 6.5% p.a. · 30-year term · IO period = 5 years
What interest only and principal and interest actually mean
Principal and interest (P&I)
Every repayment covers two components: the interest charged on your outstanding balance for that period, and a portion of the principal which is the actual amount you borrowed. In the early years, most of each repayment goes to interest. As the balance reduces, the interest component shrinks and more of each payment goes to principal. Over a 30-year term, the loan reaches zero.
On a $600,000 investment loan at 6.5% P&I over 30 years, your monthly repayment is approximately $3,792. In the first year, around $3,250 of each payment is interest and $542 is principal reduction.
Interest only (IO)
An interest only loan charges you only the interest component — nothing is applied to reduce the principal. The loan balance stays flat for the IO period (typically one to five years, with some lenders offering up to ten). At the end of the IO period, the loan either reverts to P&I — usually over the remaining term, which means higher repayments — or you negotiate a new IO period.
On the same $600,000 loan at 6.5% IO, your monthly repayment is approximately $3,250 — around $542 less per month than P&I. That is $6,504 per year in lower repayments.
Key point: IO does not reduce your debt. After five years of IO repayments, you still owe the full $600,000. P&I borrowers in the same period have reduced their balance to around $573,000. |
The cashflow argument for interest only
The primary reason investors choose IO is cashflow. Lower mandatory repayments mean more money in your pocket each month, which you can redirect to your offset account, another investment, renovations, or simply as a buffer against vacancy or unexpected costs.
This is not an irrational position. Property investment is a long-term strategy built primarily on capital growth. If the property grows at five to seven percent per year, the principal you are not paying down is increasing in value anyway. The argument goes: if the asset is appreciating faster than your debt, why pay the debt down quickly?
The after-tax cashflow difference is the number that matters most. At current investment loan rates of around 6.5%, the interest component of a $600,000 loan is approximately $39,000 per year. Every dollar of that interest is deductible against your taxable income. If you are on the 37% marginal rate, the ATO effectively subsidises $14,430 of that interest bill through your tax return.
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Monthly repayment: interest only vs principal and interest
Investment loan · 6.5% p.a. · 30-year term · IO rate 6.65% · three loan sizes
P&I rate 6.5% p.a. · IO rate 6.65% p.a. · 30-year term. IO period repayments are interest only. After the IO period ends, P&I repayments will be higher than the figures shown (shorter remaining term on same balance).
Why P&I is not automatically the wrong choice for investors
The IO vs P&I debate has a counterintuitive element that many borrowers miss. Because interest only loans carry slightly higher rates — typically 0.10% to 0.30% above comparable P&I loans — the additional deductible interest you gain from IO is partially offset by the higher rate you pay for it.
More importantly, P&I repayments build equity. Equity in an investment property is the raw material for your next purchase. If your strategy is to build a portfolio over time, reducing the balance on property one increases your usable equity — and your ability to use that equity as a deposit for property two without refinancing.
There is also a structural advantage to P&I that is rarely discussed: it forces discipline. IO repayments leave extra cashflow in your account each month, but only benefit you if you actually do something productive with that cashflow — offset, invest, or save. Many investors spend it instead. The lower P&I repayment imposes a savings habit automatically.
The tax position: how it changes with each structure
The ATO taxes rental income and allows deductions against expenses including loan interest, property management fees, rates, insurance, and depreciation. Where IO and P&I differ significantly is in the interest deduction over time.
With IO, the interest deduction stays constant for the IO period — the balance is not reducing, so the interest charge does not shrink. With P&I, the interest deduction decreases each year as the principal reduces. This means IO produces a larger and more consistent tax deduction over the IO period compared to P&I.
The practical effect: over a five-year IO period, an investor on the 37% bracket will receive approximately $2,000 to $5,000 more in annual tax savings on a $600,000 loan compared to P&I, depending on the rate differential. This is not trivial — but it needs to be weighed against the fact that the principal is not reducing during that period.
Stanford Financial
Annual deductible interest: IO vs P&I over 30 years
$600,000 investment loan · 6.5% P&I rate · 6.65% IO rate · IO period = 5 years
The worked example: $600,000 investment loan, 6.5% rate, 37% tax bracket
The following comparison uses a $600,000 investment loan at 6.5% over 30 years. The IO scenario runs for five years before reverting to P&I. The property generates $550 per week in rent. Annual holding costs (rates, insurance, property management, maintenance) are $8,000 excluding loan interest.
Item | P&I | IO (year 1–5) |
Annual rent income | $28,600 | $28,600 |
Annual loan interest | $38,350 (yr 1) | $39,000 |
Other holding costs | $8,000 | $8,000 |
Annual shortfall (pre-tax) | $17,750 | $18,400 |
Tax saving at 37% | $6,568 | $6,808 |
Real after-tax shortfall | $11,182/yr | $11,592/yr |
Real weekly holding cost | $215/week | $223/week |
Monthly repayment | $3,792 | $3,250 |
Loan balance after 5 years | ~$573,000 | $600,000 |
The after-tax holding cost difference between IO and P&I on this property is approximately $8 per week — much smaller than the raw cashflow difference suggests. IO saves $542 per month in repayments but reduces the tax deduction slightly (because P&I interest slightly exceeds IO interest in year one — P&I starts higher as no principal has been paid, but by mid-term P&I interest is lower).
The real-world decision turns on what you do with the $542 monthly saving from IO. If it goes into the offset account on your principal place of residence, saving 6.0% home loan interest tax-free, the IO structure has a clear advantage. If it disappears into spending, P&I is the better discipline.
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What you do with the IO cashflow saving determines whether IO is actually better
$600,000 investment loan · IO saves $467/month vs P&I · over 5 years · two scenarios
The IO decision is really a cashflow discipline question. IO beats P&I only when the monthly saving is redirected productively — specifically into the offset account on a non-deductible home loan. If you do not have a home loan, or the saving will be spent, P&I is the stronger default choice.
When interest only makes sense for an investment loan
Interest only is the stronger choice when most or all of the following apply:
You have a principal place of residence with a mortgage. The optimal strategy is to make IO repayments on the investment (preserving the full deductible interest) and redirect every spare dollar to your home loan, which is not tax-deductible. You reduce the non-deductible debt as fast as possible while keeping the investment interest deduction maximised.
You have strong property growth expectations. If you expect the investment property to grow at six percent per year and the loan costs you 6.5% before tax (about 4.1% after tax at 37%), the net cost of holding the debt is modest compared to the capital gain. IO keeps your cashflow available to manage the investment.
You are in the 37% or 45% tax bracket. The higher your marginal rate, the more the tax system subsidises your investment interest. At 45%, the ATO covers $17,550 of the $39,000 interest bill on a $600,000 loan — nearly half. This changes the real cost calculation significantly.
You plan to sell within five to seven years. If the exit strategy is a capital gain rather than long-term income, accumulating equity through principal reduction is less important. IO keeps your cashflow optimised for the holding period.
You have significant savings in offset. Keeping savings in the offset account on an IO investment loan is structurally problematic — it is generally better to have those savings in the offset on your home loan. IO on the investment makes most sense when the cashflow saving is directed productively.
When principal and interest makes sense for an investment loan
P&I is the better choice when:
You do not have a home loan. If you own your home outright, you have no non-deductible debt to prioritise. Building equity in the investment property through P&I gives you the raw material to expand your portfolio.
You are at the lower end of the income scale. At the 32.5% bracket, the tax subsidy on investment interest is more modest. The benefit of IO is smaller, and the discipline of P&I principal reduction may outweigh the cashflow saving.
APRA policy limits apply. Since 2017, APRA has periodically imposed restrictions on interest only lending as a proportion of new loans. During periods of restriction, IO rates can be materially higher than P&I rates. If the rate premium for IO is above 0.25%, the case for P&I on investment strengthens significantly.
You want to hold the property long-term and build rental yield on original cost. As you pay down principal, your yield on the original purchase price increases — even if rent stays the same. A property bought at $700,000 with $500,000 remaining becomes positively geared much sooner on a P&I structure.
Stanford Financial
Which structure suits your situation?
Decision matrix: investment loan repayment type by home loan status and marginal tax bracket
IO ✓ / IO ✓✓
Interest only recommended
Lean IO / Consider
Depends on what you do with saving
P&I
Principal and interest recommended
This matrix is a guide, not a rule. Your specific figures — loan sizes, income, existing savings, property strategy — change the answer. Stanford Financial models the exact numbers for your situation. Call 0483 980 002 or book a free assessment.
The lender and APRA context — April 2026
At April 2026, investment IO rates from major lenders sit at approximately 6.60% to 6.90% depending on LVR and lender. Investment P&I rates for the same borrower profile are approximately 6.40% to 6.70%. The rate differential is currently 0.10% to 0.30%, which is at the lower end of historical ranges.
IO terms on investment loans are typically limited to one to five years, with some lenders offering up to ten. At the end of the IO period, the loan reverts to P&I on the remaining term — which means if you take a five-year IO period on a 30-year loan, you are then making P&I repayments over 25 years. Those repayments will be higher than they would have been over 30 years.
Lender policies on IO periods also vary. Some lenders allow multiple consecutive IO terms subject to assessment. Others require a return to P&I before granting a further IO period. This is a negotiation that is easier to navigate with a broker who knows each lender’s policy.
What the banks do not tell you about IO
Banks have a mild conflict of interest on this question. Interest only loans generate more revenue certainty — the bank collects a predictable interest payment with no principal erosion in the early years. When bank staff recommend IO, they are not necessarily recommending what is best for you.
A broker’s recommendation is structurally different. A broker is paid a trailing commission on the outstanding balance — which means a broker who recommends IO on an investment loan while you pay down your home loan first is recommending a structure that keeps both balances higher for longer. This is only appropriate if it genuinely suits your tax and financial position.
The right recommendation depends on your full picture: home loan balance and rate, investment strategy and time horizon, marginal tax rate and expected income changes, existing savings and offset position, and whether further property purchases are planned. A calculator can model the numbers. A broker models the strategy.
Five questions to ask before choosing
Do I have a non-deductible home loan?
If yes, IO on the investment and maximum repayments on the home loan is almost always the better structure.
What is my marginal tax rate, and is it likely to change?
The tax benefit of investment interest changes as your income changes. A pay rise, starting a business, or going to part-time work all affect the calculation.
What will I actually do with the cashflow saving from IO?
Be honest. If the answer is “I’ll put it in offset on my home loan”, IO makes sense. If the answer is unclear, P&I forces the discipline you need.
What is the IO rate premium at the lenders I qualify for?
If the IO rate is more than 0.25% above P&I, the tax benefit narrows and the case for IO weakens.
What is my exit or hold strategy?
IO suits a capital growth play with a defined exit horizon. P&I suits a long-term hold strategy where the income yield and equity position are the priority.
How Stanford Financial structures investment loans
When a client comes to us with an investment purchase, the first conversation is not about rates. It is about loan structure. Getting the structure right — which split between IO and P&I, which account type for each, how to maximise the deductibility of the investment loan while minimising the home loan balance — is worth more than any rate negotiation in the long run.
We compare interest only investment loan options across 50-plus lenders, including specialist investment lenders who do not advertise to the public. We model the after-tax cashflow position at your specific income level, and we flag the APRA policy positions and IO term limits at each lender so there are no surprises when the IO period ends.
If you are weighing up an interest only investment loan or want to review your current investment loan structure, book a free assessment. The conversation takes 30 minutes and will give you a clear picture of the best structure for your specific situation.
Call us on 0483 980 002 or book a free assessment online.
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Reviewed and Verified
All content published on this website has been reviewed and verified by Steven Beach, Lending Director at Stanford Financial. With over 20 years of experience in finance and lending, Steve ensures that every article, guide, and resource accurately reflects current lending practices, lender policies, and the real-world outcomes he sees working with Australian borrowers every day. His hands-on experience across home loans, investment lending, and specialist finance means the information you read here is grounded in genuine industry expertise – not just theory.
