Interest-only (IO) is a loan payment structure in which the borrower pays only interest — no principal — for a specified period during the loan term. An interest-only period may cover the full loan term (full-term IO) or just a portion of it (partial IO), after which the loan converts to amortizing payments based on the remaining amortization schedule. Interest-only structures are common across nearly all CRE loan types: bridge loans are typically full-term IO, while permanent loans may offer one to five years of IO before amortization begins. The primary benefit to borrowers is lower debt service during the IO period, which preserves cash flow for property stabilization, renovations, or higher equity returns. The tradeoff is that no principal is repaid during the IO period, meaning the full loan balance remains outstanding.
How It Works in Practice
Interest-only periods have significant implications for covenant compliance, refinancing risk, and investor returns. During the IO period, your DSCR will be higher than it would be under an amortizing structure because your debt service is lower — but that changes when the IO period expires and principal payments begin. This “DSCR cliff” at the IO-to-amortization transition is a critical planning date. A property that passes its DSCR covenant comfortably during the IO period may fail the same test once amortization kicks in, especially if NOI hasn’t grown sufficiently. Borrowers also need to understand that full-term IO means no principal paydown — you’ll owe the same balance at maturity that you borrowed at origination, which means your LTV depends entirely on property value appreciation. When evaluating IO terms, consider the IO period length, the amortization schedule that follows, and how the transition affects your projected DSCR and cash flow. LoanBoss tracks IO expiration dates and models the debt service increase at each IO-to-amortization transition across your portfolio.
Related Terms
Part of the LoanBoss CRE Debt Glossary. For hedging-specific terms, see Pensford’s resources.