"We've got a huge chunk of loans out there that are interest only," economist Richard Holden told 7.30.
"They're typically a five-year or so period.
"And when people have to start paying back the principal on those, that's going to send their repayments up a lot and many people might not be able to afford them."
At its peak last year about 40 per cent of all new loans issued by banks were interest only.
"Banks have lent in a fairly imprudent way," Professor Holden said.
"They've lent too much, people have been encouraged to borrow too much, partially by the market and partially by this general mania about property in Australia.
"That's lead to a very risky situation."
'This could burst the bubble'
In March last year the banking regulator decided it was time to intervene to avoid mass defaults in the future.
The Australian Prudential Regulation Authority (APRA) ordered the banks to slash the volume of interest-only mortgages to below 30 per cent of new loans.
"APRA's actions could very well lead to a nice smooth diversification of the home loan books of the major lenders and make sure that interest-only loans aren't too large a proportion," Professor Holden said.
"On the other hand they could kind of burst this bubble of interest-only loans.
"The real concern is that they cause, if you like, a sort of a hard landing in the home loan market.
"We might get out of it OK.
"But there's a real risk of some kind of US-style meltdown."
'We would have to sell'
Lynne Wishart has an interest-only loan that switches to principal and interest next year.
She wants to extend the interest-only period — but now has doubts her bank will let her.
"If banks choose to not let people have interest-only loans, then I can only imagine that there would be a quite a number of people in maybe a similar situation to us who won't have the excess cash to be able to afford a principal and interest loan," she told 7.30.
Ms Wishart is studying teaching and her husband works full-time.
Two years ago her bank gave her an interest-only loan to buy a home for a family member.
That family member has since moved out and the rent from her new tenant only just covers the mortgage repayments.
"We're on a very, I'd say, pretty tight budget," Ms Wishart said.
"We don't go out much. We don't buy any new clothes.
"We live from pay to pay and if there were any change whatsoever, we just we couldn't do it.
"We would have to sell."
Westpac's 'shocking' revelation
Ms Wishart's loan is with The Bank of Melbourne — a subsidiary of Westpac.
At a parliamentary hearing last year, Westpac chief executive Brian Hartzer told the committee that 50 per cent of his bank's mortgages were interest only.
"When Brian Hartzer told the parliamentary committee that more than half his home loan book at Westpac was interest only, I found that pretty stunning and a little bit shocking to be honest," Professor Holden said.
Westpac's lending practices are now being scrutinised in court.
The corporate regulator, Australian Securities and Investments Commission (ASIC), has accused the bank of irresponsible lending, alleging that over a four-year period it failed to properly assess homebuyers' ability to meet their repayments.
Now Ms Wishart is questioning whether the bank should have ever given her a loan.
"If you look purely just at the figures, we weren't in a position to … we couldn't afford to repay even just an interest-only loan with the one income," she said.
"So if you're looking specifically at a figure point of view, I think you could say that they were irresponsible."
Westpac declined 7.30's request for an interview, but in a statement said it always assesses whether a borrower can meet repayments if interest rates rise.
Yesterday, Westpac released figures showing that it had cut the number of interest-only loans on its books to 34.2 per cent of its entire mortgage portfolio.
ABA resists comparison with US sub-prime housing crisis
The Australian Banker's Association declined 7.30's request for an interview.
"It's ill-informed to make a comparison to Australia's housing market with the situation in the United States during the sub-prime housing crisis," the ABA said in a statement.
"When issuing home loans, Australian banks take into account whether customers can afford to meet both interest and principal payments, even if the loan is interest only for a period."