An interest only business loan lets you pay just the interest for an agreed period, so your regular repayments are much lower while the amount you owe stays the same. That can be a genuine help for cash flow, but it doesn’t make the debt cheaper. It usually makes it more expensive overall, and the bill for the principal still arrives later.
This guide covers how an interest only business loan works, what it costs compared with a standard loan, and what to plan for when the interest only period ends.
What Is an Interest Only Business Loan?
With a standard principal and interest loan, each repayment pays off some of the interest and some of the amount you borrowed. With an interest only business loan, for the interest only period your repayments cover the interest alone, so the balance doesn’t fall.
After that period, the loan typically does one of three things:
- Switches to principal and interest repayments over the remaining term, which lifts your repayment
- Is paid out in full with a lump sum, sometimes called a bullet or balloon payment
- Is refinanced into a new facility
Interest only periods on business lending commonly run from one to five years, though it varies by lender and product.
How Interest Only Repayments Are Calculated
The interest only repayment is simple to work out:
Loan amount × annual interest rate ÷ 12 = monthly interest only repayment
On a $100,000 loan at 9% p.a., that is $100,000 × 0.09 ÷ 12 = $750 a month.
Our Business Loan Repayments calculator calculates standard principal and interest repayments, so it’s a useful comparison point for seeing what the same loan would cost if you were paying the balance down from day one.
A Worked Example: Interest Only vs Principal and Interest
Take a $100,000 loan at 9% p.a. over 5 years. Here are three ways to repay it.
Repayment approach | Monthly repayment | Total interest over 5 years | Still owing after 5 years |
Principal and interest for 5 years | about $2,076 | about $24,550 | $0 |
Interest only for 2 years, then principal and interest for 3 years | $750 for 2 years, then about $3,180 | about $32,480 | $0 |
Interest only for the whole 5 years | $750 | $45,000 | $100,000 |
A few things stand out:
- The interest only periods cut your early repayments dramatically, from about $2,076 to $750 a month.
- The two year interest only option costs about $7,930 more in interest than standard repayments, because the balance stays higher for longer.
- When the interest only period ends, the repayment jumps. In the second row it rises from $750 to about $3,180 a month, which is more than the standard loan, because the same principal is now being repaid over a shorter remaining term.
- Interest only for the full term means you still owe the whole $100,000 at the end.
This is the key trade off. You are buying lower repayments now with a higher total cost and a bigger repayment later.
Where Interest Only Business Loans Are Available
Interest only options are most often offered on secured lending, such as loans against property, and on facilities like lines of credit and commercial property loans. They’re less common on short term unsecured loans, where terms are brief and the lender wants principal coming back quickly. Our Secured Business Loans guide and Unsecured Business Loans guide explain how those structures differ.
Pricing also differs. A loan with an interest only period is often priced higher than an otherwise similar principal and interest loan, so check the rate offered for each option rather than assuming they match. Our Business Loan Interest Rates guide covers what drives pricing more broadly.
The Benefits of an Interest Only Business Loan
- Lower repayments while the business ramps up, finishes a project, or waits for an asset to start earning
- Better short term cash flow, which can free money for stock, staff, or growth
- Flexibility if you expect a lump sum later, such as from a sale or a maturing investment, that could repay the principal
- Tax treatment that some owners find attractive, covered below
The Risks and Drawbacks
- Higher total interest, since the balance isn’t reducing
- Payment shock when the interest only period ends and repayments rise
- Refinance risk. If you plan to refinance at the end and your circumstances, the asset’s value, or lending conditions have changed, you may not get the terms you expected
- Rate risk on variable loans. If your rate is variable, your repayment moves when lenders change their rates in response to the Reserve Bank’s cash rate
- No equity building. You aren’t reducing what you owe, so you build no cushion against a fall in the value of any security
How Interest Only Repayments Are Treated for Tax
In general, interest on money borrowed for business purposes is deductible, while repayments of the principal are not. That means on an interest only loan, your repayments during the interest only period are essentially all interest, and generally deductible when the funds are used for business purposes. The ATO’s business deductions guidance sets out the rules, and an accountant can confirm how they apply to your structure.
Tax is a reason to ask the question, not a reason to choose interest only on its own. A deduction reduces your tax bill by only a portion of what you pay, so it never makes extra interest free.
What Happens When the Interest Only Period Ends?
This is the part to plan for before you sign, not when the date arrives. Your realistic options are:
- Move to principal and interest. Make sure the higher repayment will fit your cash flow, using the example above as a guide.
- Repay from a planned lump sum, such as an asset sale, but only if the funds are genuinely expected and not just hoped for.
- Refinance. This can work well, but it depends on your position at the time. Our Refinance Business Loan guide explains the costs and how to judge whether switching is worth it.
- Extend the interest only period, if the lender offers it, though this is typically a new assessment rather than a right.
Who Suits an Interest Only Business Loan?
It tends to suit businesses with a clear reason for temporarily lower repayments and a realistic plan for the principal: a business investing in a project that will take time to earn, a property backed borrower with a planned sale, or an owner who needs breathing room through a short term squeeze with a credible path out.
It tends to suit less well a business with thin margins and no plan for the principal, or an owner choosing it only because the repayment looks more comfortable. Lenders also assess your ability to afford the higher repayments that follow, not just the interest only ones, so you need to qualify on the full picture. Our Business Loan Requirements guide covers what lenders look at.
Common Mistakes With Interest Only Business Loans
- Choosing it for the lower repayment alone, without planning for the principal
- Underestimating the repayment jump when the interest only period ends
- Comparing only the interest rate, and missing that a longer interest only period costs more over the life of the loan
- Assuming a refinance will be easy, when it depends on your circumstances then
- Skipping the tax conversation, and treating the deduction as a bigger benefit than it is
ASIC’s Moneysmart has independent guidance on understanding loan structures and what you’re committing to before you sign.
Should You Use a Broker for an Interest Only Business Loan?
Lenders differ in whether they offer interest only, how long the period can be, and how they price it. A broker compares across a panel, shows you the total cost of each structure side by side, and helps you plan for the end of the interest only period. Lodestar Finance’s Business Loans service does that comparison, and if you have property to offer, our Secured Business Loans page covers that route.
FAQs
Frequently Asked Questions
Not overall. Repayments are lower during the interest only period, but because the balance isn't falling you pay more interest in total than on a standard loan.
It varies by lender and product, but one to five years is common.
It's less common. Interest only options are more often offered on secured lending and facilities like lines of credit, though some lenders may consider it case by case.
They typically rise, because the principal now has to be repaid over a shorter remaining term. In the example above, repayments jump from $750 to about $3,180 a month.
Interest on funds borrowed for business purposes is generally deductible, but check how it applies to your situation with your accountant.
