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When your loan principal increases rather than decreases because your monthly payment isn't enough to cover the loan interest, that's called negative amortization.
This can happen if you have an adjustable-rate mortgage (ARM) that specifies a payment cap, or maximum rate increase, and the interest rate rises above the cap.
Negative amortization can also occur with mortgages that have no rate adjustment caps, or those that let you make very low initial payments that don't cover the loan interest.
The promise of low initial payments may make loans that could result in negative amortization attractive, but there are substantial risks. Eventually, your monthly payment will have to increase, sometimes sharply, to pay off the larger loan.
If interest rates have risen, you may not be able to refinance at a favorable rate. And if real estate prices fall, you could find yourself with a mortgage loan that is larger than the value of your home.Yahoo Finance - Cite This Source - This Definition
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Occurs when the monthly payments in an adjustable-rate mortgage loan do not cover all the interest owed. The interest that is not paid in the monthly payment is added to the loan balance. This means that even after making many payments, you could owe more than you did at the beginning of the loan. Negative amortization can occur when an ARM has a payment cap that results in monthly payments that are not high enough to cover the interest due or when the minimum payments are set at an amount lower than the amount you owe in interest.The Federal Reserve Board - Cite This Source - This Definition
- Browse Related Terms: Adjustable-Rate Mortgage (ARM), amortization, balloon mortgage, Convertible ARM, Debarment, Fixed-Rate Mortgage (FRM), Interest-only mortgage, Lock-In, Lock-in agreement, Mortgage life insurance, Negative amortization, Payment Cap, Right of rescission, Self-Amortizing Loans, Swap, term, Weighted Average Life (WAL)
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