When a loan is paid off with regular payments, be it monthly or quarterly, and the total amount that you owe goes down with every payment, that is what amortization is all about. But if the total amount you owe to a creditor still goes up despite paying it off regularly, that is called negative amortization.
Why does negative amortization happen?
Negative amortization happens when you are not making enough payments. Your lender may allow you to make minimum payments, making you think that you are able to save money. But what you don’t realize is that making minimum payments does not cover the interest on your debt. So every time you make a payment, the unpaid interest is accumulated to the amount you loaned, increasing your loan or mortgage over time.
This means that a negative amortization can be risky. You could end up owing more than you originally planned. When that happens, you could have a hard time selling your house since the proceeds might not be enough to cover your debt. This could result in foreclosure.
How to avoid negative amortization?
When making repayments, see to it that you pay all of the interest and a bit of the principal amount. This ensures that you’ll be able to pay off your mortgage on time.