Negative Amortization - Explained
What is Negative Amortization?
Written by J. Mance Gordon
Updated at April 18th, 2022
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What is Negative Amortization?
Negative amortization occurs when the loan payment by a borrower is less than the interest that has accumulated over a period of time, when this happens, the principal or outstanding balance of the loan increases. In other words, when the interest charged on a loan over a period of time is more than the loan payment for that period, negative amortization occurs. The increase in the principal balance is as a result of the addition of the interest owed to the principal.
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How Does Negative Amortization Work?
Negative amortization is common in the mortgage industry. There are certain mortgage loans that have negative amortization as a feature, these mortgages are called payment option ARM, the borrower enjoys flexibility in the repayment of loans and interest payment. Payment option ARMs have scheduled payment plans, the borrower might be allowed to pay the principal of the loan and interest or pay only some part of the interest. Another mortgage plan that feature Graduated payment mortgages (GPMs). Borrowers can make payments that do not cover the whole of the interest a borrower has accrued overtime.