Negative amortisation, or "neg am," happens when a mortgage's minimum payment is less than the monthly interest. This means that the loan balance goes up instead of down. Most of the time, interest-only loans don't add to the amount owed on a home, but they don't take away from it either. But loans with deferred interest will make your loan amount bigger. This can happen if you have a loan with negative amortisation, like a payment option adjustable-rate mortgage (ARM). Your payment options can be calculated based on COFI, the 11th District Cost of Funds Index, which shows the average interest rate paid by certain banks in Arizona, California, and Nevada, or on MTA, the 12 month Treasury Average, giving you a choice of how to make your payments. When short-term interest rates are low, these loans can be a good deal. However, they may not be the best choice when short-term interest rates are high, like they are now. For most people, now is not a good time to switch from a fixed-rate loan to a mortgage with deferred interest.
If you want to get money out of your home equity in the future, you should look for a loan that requires you to pay some of the principal. With negative-amortization loans, you may not only not build equity in your home, but you may also lose equity if your mortgage balance goes up. If you need to sell your home quickly, you might not be able to get enough money for it to pay off your loan. Negative ARM loans will also make it harder for you to get a second mortgage.
Henry Savage, the president of PMC Mortgage, says that with a mortgage that has been put off, "For every $100,000 borrowed, the mortgage balance can go up by as much as $350 per month. For example, the interest on a $500,000 loan can be as much as $1,750 per month." He goes on to say, "I wouldn't recommend an Option ARM in a lot of situations." But there are a few times when interest-free loans or loans with negative amortisation may make sense.
Neg am loans are good for investment properties, especially if you have to pay two mortgages. They are also good for self-employed people who have problems with cash flow. If you want to pay some of the principal every month but don't know what your cash flow will be like from month to month, a minimum payment may be helpful.
Do your research before you decide on a mortgage with deferred interest. Even though your payments will be lower, there are risks involved, and you may be better off with a fixed-rate mortgage.
