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. Dual Index Mortgage

    A type of mortgage where the interest rate paid on the outstanding ...
  4. Deferred Interest

    The amount of interest that is added to the principal balance ...
  5. Fully Amortizing Payment

    A periodic loan payment, part of which is principal and part ...
  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 ... Read Full Answer >>
  2. What is the difference between technical analysis and fundamental analysis?

    Fundamental analysis and technical analysis are distinct methods used to research and evaluate securities. Fundamental analysis ... Read Full Answer >>
  3. How is reconciliation treated under generally accepted accounting principles (GAAP)?

    The generally accepted accounting principles, or GAAP, provide different reconciliation rules for balancing many kinds of ... Read Full Answer >>
  4. What is the difference between work in progress (WIP) and raw materials in accounting?

    Raw materials and works in progress (WIP) are distinct categories in financial accounting for business inventory. Each applies ... Read Full Answer >>
  5. How is accounting in the United States different from international accounting?

    Despite major efforts by the Financial Accounting Standards Board, or FASB, and the International Accounting Standards Board, ... Read Full Answer >>
  6. Which financial statements are most important when performing ratio analysis?

    Financial ratio analysis is an important aspect of fundamental analysis for any party engaged in value investing. Financial ... Read Full Answer >>
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. Economics

    Understanding Carrying Value

    Carrying value is the value of an asset as listed on a company’s balance sheet. Carrying value is the same as book value.
  5. Economics

    International Financial Reporting Standards (IFRS)

    International Financial Reporting Standards are accounting rules and guidelines governing the reporting of different types of accounting transactions.
  6. Economics

    Explaining Property, Plant and Equipment

    Property, plant and equipment are company assets that are vital to business operations, but not easily liquidated.
  7. Economics

    How to Calculate Trailing 12 Months Income

    Trailing 12 months refers to the most recently completed one-year period of a company’s financial performance.
  8. Economics

    What is Unearned Revenue?

    Unearned revenue can be thought of as a "pre-payment" for goods or services which a person or company is expected to produce to the purchaser.
  9. Investing Basics

    What is Capital Stock?

    Capital stock refers to the number of authorized shares a corporation may issue, both common and preferred.
  10. Investing

    Why Cash Management Is Key To Business Success

    Businesses need to generate a healthy cash flow to survive, but not hold too much so that inventory suffers or investment opportunities are missed.

You May Also Like

Hot Definitions
  1. Wash Trading

    The process of buying shares of a company through one broker while selling shares through a different broker. Wash trading ...
  2. Fixed-Income Arbitrage

    An investment strategy that attempts to profit from arbitrage opportunities in interest rate securities. When using a fixed-income ...
  3. Venture-Capital-Backed IPO

    The selling to the public of shares in a company that has previously been funded primarily by private investors. The alternative ...
  4. Merger Arbitrage

    A hedge fund strategy in which the stocks of two merging companies are simultaneously bought and sold to create a riskless ...
  5. Market Failure

    An economic term that encompasses a situation where, in any given market, the quantity of a product demanded by consumers ...
  6. Unsystematic Risk

    Company or industry specific risk that is inherent in each investment. The amount of unsystematic risk can be reduced through ...
Trading Center