Interest-Only vs Principal & Interest — 2026 Lender Attitudes
In 2017, APRA imposed a 30% cap on new interest-only (IO) lending, partly to cool investor demand and reduce systemic risk. The cap relaxed in 2018. In 2026, IO lending is again widely available — but only for the right borrowers. Here’s the practical 2026 landscape.
The Two Structures
- Principal & Interest (P&I): Each payment reduces the loan balance and pays interest. Standard for owner-occupier.
- Interest-Only (IO): Each payment covers only interest; loan balance doesn’t decrease during IO period. After the IO period (typically 5 years, sometimes extendable to 10), the loan reverts to P&I.
Why Investors Prefer IO
- Lower repayments during IO period (interest only, no principal)
- Maximum tax deduction — all of the IO payment is interest, which is deductible against rental income
- More cash flow for further investments or offsetting against owner-occupier debt
- No reduction in deductible debt during IO — keeps the “deductible interest” component large
Why Lenders Are Cautious
APRA’s concern is that IO loans become “ticking time bombs” — when the IO period ends and payments balloon (P&I on a much larger remaining balance), borrowers can struggle.
In 2026, APRA lets banks lend IO but requires:
- IO portion of total new lending stay below 30%
- Stricter serviceability testing on the post-IO P&I payment
- Generally, IO available primarily for investment properties, not owner-occupier
2026 Rates and Spreads
| Loan type | Rate range |
|---|---|
| Owner-occupier P&I | 5.55%–6.10% |
| Owner-occupier IO | 5.95%–6.50% (rarely offered) |
| Investor P&I | 5.85%–6.30% |
| Investor IO | 6.15%–6.65% |
IO loans carry a 0.30–0.40 percentage-point premium. This is the cost of the structure.
When IO Makes Sense
- Investment property held for capital growth, not cash flow — minimize annual outlay, maximize deduction
- Equity recycling strategy — keeping the investment side IO while paying down owner-occupier
- Bridging finance scenarios — short-term arrangement
- Off-the-plan purchase during construction (often automatically IO)
When IO Hurts
- No clear plan for post-IO period — if you can’t service P&I on the full balance after year 5, you’re in trouble
- Owner-occupier purchase — you should be paying down your home loan; IO is rarely justifiable
- Stretched borrower — IO masks how much you really owe; when the reset hits, payments can jump 30%–40%
The Hidden Cost of Repeated IO Periods
Each IO extension typically requires reassessment. If your circumstances change (lower income, more dependents, other debts), the lender may decline to extend. You’d then be forced into P&I on the full remaining balance with no principal already paid.
Refinancing Out of IO
If your IO period is ending and you’d like a fresh IO term, you have three options:
- Same lender: request IO extension (typically requires income re-verification)
- Different lender: refinance to a new IO loan elsewhere
- Accept P&I: ride it out
Option 2 — refinancing — is increasingly common as different lenders’ appetites for IO shift quarter to quarter.
Bottom Line
In 2026, IO is alive and well for genuine investors with deliberate strategies. For owner-occupiers, P&I is almost always right. If you take IO, plan for the day it ends — make sure you can service P&I on the full balance, or have a refinance path. Don’t use IO simply to “afford” a property you couldn’t otherwise afford.