Negatively Amortizing Loan

AAA

DEFINITION of 'Negatively Amortizing Loan'

A loan with a payment structure that allows for a scheduled payment to be made where it is less than the interest charge on the loan at the time the scheduled payment is made. When a payment is made which is less than the interest charge at the time, deferred interest is created. The amount of deferred interest created is added to the principal balance of the loan, leading to a situation where the principal owed increases over time instead of decreases.

INVESTOPEDIA EXPLAINS 'Negatively Amortizing Loan'

For example, consider a loan with an 8% annual interest rate, a remaining principal balance of $100,000, and a provision that allows the borrower to make $500 payments at a certain number of scheduled payment dates. The interest due on the loan at the next scheduled payment would be: 0.08 / 12 x 100,000 = $666.67. If the borrower makes a $500 payment, $166.67 in deferred interest ($666.67 - $500) will be added to the principal balance of the loan for a total remaining principal balance of $100,166.67. The next month's interest charge would be based on this new principal balance amount, and the calculation would continue each month leading to increases in the loan's principal balance, or negative amortization.

Negative amortization cannot continue indefinitely. At some point, the loan must start to amortize over its remaining term. Typically, negatively amortizing loans have scheduled dates when the payments are recalculated, so that the loan will amortize over its remaining term, or have a negative amortization limit which states that when the principal balance of the loan reaches a certain contractual limit, the payments will be recalculated.

RELATED TERMS
  1. Level Payment Mortgage

    A type of mortgage that requires the same dollar payment each ...
  2. Payment Option ARM

    A monthly adjusting adjustable-rate mortgage (ARM) which allows ...
  3. Negative Amortization

    An increase in the principal balance of a loan caused by making ...
  4. Deferred Interest

    The amount of interest that is added to the principal balance ...
  5. Mortgage Recast

    A feature in some types of mortgages where the remaining scheduled ...
  6. Unscheduled Recast

    The unscheduled recalculation of the remaining amortization schedule ...
RELATED FAQS
  1. What is the difference between amortization and depreciation?

    Because very few assets last forever, one of the main principles of accrual accounting requires that an asset's cost be proportionally ...
Related Articles
  1. Credit & Loans

    How Mortgage Refinancing Affects Your Net Worth

    Find out how to determine whether refinancing will put you ahead or even more behind.
  2. Bonds & Fixed Income

    Profit From Mortgage Debt With MBS

    Mortgage-backed securities can offer monthly income, a fixed interest rate and even government backing.
  3. Home & Auto

    Option ARMs: American Dream Or Mortgage Nightmare?

    Option adjustable rate mortgages could make or break your home-buying experience.
  4. Investing

    Deferred Tax Liability

    Deferred tax liability is a tax that has been assessed or is due for the current period, but has not yet been paid. The deferral arises because of timing differences between the accrual of the ...
  5. Investing

    What's MAGI?

    Modified adjusted gross income, or MAGI, is one aspect of a person’s income that is calculated while preparing a tax return.
  6. Fundamental Analysis

    Work In Progress (WIP)

    Work in progress, also know as WIP, is an asset on the company balance sheet. WIP is the accumulated costs of unfinished goods that are currently in the manufacturing process.
  7. Investing

    Ex Works (EXW)

    Ex Works, or EXW, is an international legal trade term specifying that the seller is responsible to make his goods ready for pick-up at his place of business.
  8. Fundamental Analysis

    Paid-Up Capital

    Paid-Up Capital is listed in the equity section of the balance sheet. It represents the amount of money shareholders have paid into the company by purchasing shares. It’s essentially two accounts, ...
  9. Fundamental Analysis

    What's a Prospectus?

    The Security and Exchange Commission (SEC) requires that any company raising money from potential investors through the sale of securities must file a prospectus with the SEC and then provide ...
  10. Fundamental Analysis

    What's a Tangible Asset?

    Tangible assets are property owned by a business that can be touched -- they physically exist. Examples include furniture and fixtures, computer hardware, delivery equipment, leasehold improvements ...

You May Also Like

Hot Definitions
  1. Prepaid Expense

    A type of asset that arises on a balance sheet as a result of business making payments for goods and services to be received ...
  2. Gordon Growth Model

    A model for determining the intrinsic value of a stock, based on a future series of dividends that grow at a constant rate. ...
  3. Cost Accounting

    A type of accounting process that aims to capture a company's costs of production by assessing the input costs of each step ...
  4. Law Of Supply

    A microeconomic law stating that, all other factors being equal, as the price of a good or service increases, the quantity ...
  5. Investment Grade

    A rating that indicates that a municipal or corporate bond has a relatively low risk of default. Bond rating firms, such ...
  6. Fringe Benefits

    A collection of various benefits provided by an employer, which are exempt from taxation as long as certain conditions are ...
Trading Center