What is negative amortization?
Negative amortization, or “deferred interest,” describes loans that have payment adjustment caps in addition to interest rate adjustment caps. In simple English, while your payment may stay the same, the loan’s interest might increase.
If the interest rate rises, and you choose not to pay all of the interest due each month, the overall loan amount will increase. This gives it the label “negative amortization,” since the amount you owe on your home purchase will not decrease with each payment.
When to Consider a Negative Amortization Loan
In general, we don’t recommend these loans since they can trap you in a cycle of debt. But in some circumstances, negative amortization loans may be a temporary solution to hold down your monthly payments while awaiting a cash windfall to pay down your principal.
Ask yourself, “Can I afford a house?” If the answer is entirely contingent upon a negative amortization loan, a better strategy may be to look for a lower-priced home, or simply rent and continue to save up for a larger down payment.