Definition
Negative Amortization
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Negative amortization for a housing loan occurs when your outstanding housing loan balance increases instead of decreases.
This usually occurs when a borrower makes a fixed monthly mortgage payment but the interest rate rises due to rising indices.
This effectively means that the payment is not enough to cover the actual required payment, resulting in a deferred interest scenario.
There are a few instances that this can happen.
For example, when a borrower is on a floating rate mortgage, interest rates might change every month resulting in a volatile monthly interest charge.
However, if the monthly installments are fixed to a certain amount, should interest rates rise exceedingly high, the monthly installment amount might not be enough to fully cover the interest incurred.
When this occurs, the interest balance is accrued interest and added to the principal loan balance.
Thus, instead of a basic amortization table where we observe the loan principal decreasing over time, negative amortization will show a loan principal increasing over time.
How this situation is remedied depends on the terms of the contract.
A borrower might be asked to:
- Pay off the accrued interest
- Pay an additional installment at the end of of the loan tenure
- Recast the mortgage to work out a new installment amount that take the accrued interest into account
- etc
When it is unclear why negative amortization has occurred in your loan account, it is best to clarify the details with the lender as soon as possible before the problem gets out of hand.
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