Things you must know about negative amortization, Do Not take out a mortgage until you read this article
A negative amortization loan is a loan where the monthly payment does not reduce your mortgage balance. In other words the monthly mortgage dues don't pay back the principal on the loan. In fact the payment being made doesn't even cover the minimum monthly interest charge. As a result your home mortgage will increase overtime.
How does it work?Well, your monthly payment is composed by the loan amount, interest rate, and the years that the loan will be paid back. Normally a mortgage payment will include sufficient money to pay off interest and principal, in order to effectively reduce your loan's principal balance. In a negative amortization, you don't even pay enough to cover the interest being charged by the bank.
What does negative amortization mean to you?
Since the payment in a negative amortization mortgage doesn't even cover the minimum interest charge, the amount that wasn't paid gets attached to the back of the loan (loan balance will increase with every payment). In other words, every time you make a negative amortization payment it's like you're taking out another loan on your home. When you amortize a loan it simply means that you're paying it off,
hence the term negative amortization.
Why Use a negative amortization?
The main purpose of a negative amortization is flexibility in paying back the loan. This type of amortization was designed with a certain type of borrower in mind. Normally this is a type of payment that is suggested for people without regular income, such as commission employees and business owners. The idea is that people without regular income might have a down month where making a full payment is not possible, instead of missing a payment they would have the option to apply the minimum amount, avoid missing a payment, and add the rest to the back of the loan. On the opposite side, if they have a good month then making a bigger payment is also possible in order to catch up on the negative amortization months, thus allowing the borrower to pay off the principle balance.
Note:
Negative amortization is not for everyone, as time goes on and more negative amortization payments are made, the larger the amount of money that will be owed by the borrower to catch up the loan.b
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