Negative Amortization Mortgage

Amortization refers to the process of lowering the principal amount of your home loan. With most loan structures, as you make payments, the amount you pay applies partially toward the loan interest amount and partially toward the principal. As you make payments over the years, your principal slowly decreases.

Negative amortization is when the principal amount of your loan actually increases as you pay your monthly payments. This happens because the payment amount, as structured with your negative amortization loan, is so low that it doesn't even cover the full amount of the interest. So, the interest continues to compound and the principal amount is never touched.

This may not seem like a very good loan choice for most buyers and you may be asking yourself under what conditions would this ever be a good idea(?). However, a negative amortization loan is sometimes the best option for those wishing to buy a home who have very little to contribute toward a monthly payment. Sometimes it is also a good choice for investors who are not planning on holding onto the home long enough for the loan value to really boost. This way, they can keep a low overhead along with low monthly payments yet still sell the home at a later time for a profit. It is not, unfortunately, a good loan program for everyone; especially for those who are planning on living in their home for a long time.

The biggest disadvantage of negative loan amortization arrives when homeowners want to sell their home. If they have lived in it for several years while paying on a negative amortization loan, it is entirely possible that the loan amount has become larger than the amount for which they can actually sell the house. In other words, when they decide to sell the house, not only will they not receive any profit, but they will actually owe money to the bank. If a homeowner does not totally understand the long-term consequences of a negative amortization mortgage, this can lead to substantial and unexpected financial problems with adverse effects on your credit, or even to foreclosure or bankruptcy.These serious potential consequences are just a few reasons why it is vital for potential homebuyers to understand exactly what negative amortization entails and how it can affect their financial future. If you are considering purchasing a home under a negative amortization loan program, make sure to explore all of the pros and cons with your lender/broker beforehand.