Interest-only versus amortizing loans with the same commitment

Interest-only financing preserves cash only if the owner keeps the payment difference available. If that cash is distributed or invested in another illiquid project, it cannot also fund the larger balloon. Compare an interest-only proposal with an amortizing proposal using an explicit reserve policy, not an assumption that payment relief automatically becomes maturity liquidity.

The example below holds the original principal, rate, funding, fees, and five-year maturity constant. It isolates the payment structure and the treatment of retained cash. All loan terms and refinance proceeds are hypothetical.

Calculate the two contractual schedules

Both loans fund $6 million at a fixed 6.50% rate. Loan I is interest only for all five years. Loan A makes monthly payments calculated on 25-year amortization, with its remaining balance due at month 60. Use a monthly rate of 6.50% divided by 12, 300 amortization payments, and payments at each month’s end.

Rounded display values use unrounded calculations underneath. Loan A’s payment follows P × i ÷ [1 − (1+i)^−300]. Its month-60 balance follows P(1+i)^60 − payment × [(1+i)^60 − 1] ÷ i.

I saves approximately $8,012.43 per month in scheduled cash payments. Over five years the cash-payment difference totals $480,746. A retires $566,270 of debt, more than that cash difference, because its declining balance also reduces interest expense. The remaining $85,524 difference is additional interest paid under I.

Give the saved cash an actual destination

Consider two owner policies for I. Under the retained-cash policy, every monthly payment difference goes into a separately tracked maturity account earning zero for this conservative illustration. Under the distribution policy, the owner distributes all the difference and has no available reserve from that source at maturity.

Both policies have the same loan balance and contractual payment. They have different refinance capacity. A third policy—using the money for improvements or another acquisition—requires a separate value, timing, and liquidity analysis. A projected return on an unfinished project is not cash in the maturity account.

Neither policy assumes the lender allows distributions or permits the reserve to remain unrestricted. If a cash-management agreement controls the funds, record the actual access conditions before treating them as available for payoff.

Apply a common refinance rather than a larger exit for the larger loan

Assume the next lender independently supports $5.4 million at month 60, and refinance costs are $100,000 under either route. No other reserve or payoff amount is included. I needs $700,000 of owner funding; A needs approximately $133,730.

The retained-cash IO strategy still needs about $85,524 more new capital than A under these assumptions. That equals the additional interest incurred. Distributing the relief creates a much larger immediate funding requirement, although the owner previously received the distributions. Those prior distributions belong in any full investment-return comparison; they are simply unavailable for this payoff unless actually returned.

Set the monthly reserve target from the exit need

To build the entire $700,000 IO refinance requirement over 60 months at zero interest, the owner must retain approximately $11,666.67 monthly. The $8,012.43 payment relief alone is insufficient. Another $3,654.24 per month must come from property surplus or external contributions.

That target is useful before closing: it turns “we will save the difference” into a budget that can be tested against actual operations. If the owner can retain only $5,000 per month, the modeled account reaches $300,000 and the remaining maturity requirement is $400,000. Do not continue showing the original full reserve after reducing the contribution.

If reserve investments earn a return, model after-tax returns, fees, timing, and actual liquidity. This article assumes none. A higher expected return can change the economics but does not guarantee the balance required on a fixed maturity date.

Keep payment coverage separate from underwriting coverage

Suppose common annual cash flow is $700,000. Actual payment coverage is approximately 1.79 times for I and 1.44 times for A. That does not establish that I qualifies for a larger loan.

Freddie Mac’s April 2026 fixed-rate summary, page three, says its stated coverage calculation for partial and full-term interest-only periods uses an amortizing payment. This is a product-specific example of why underwriting coverage can differ from the cash payment. Current program guidance and the actual lender’s calculation control; the example is not a promise that an IO payment improves qualification.

Ask for both the contractual payment schedule and the underwriting debt-service denominator. Use the first for the cash account and the second for the lender’s stated sizing or covenant test. Combining the more favorable denominator with another lender’s threshold creates an offer that nobody made.

The decision should specify how much payment relief will be retained, where it will be held, when it can be accessed, and how the residual maturity requirement will be funded. Interest only changes the timing of principal repayment. The owner’s cash policy determines whether that timing becomes useful flexibility or an unfunded balloon.