Negative amortization typically occurs in which type of mortgage?

Negative amortization is a condition that occurs when the payments made on a loan are not sufficient to cover the interest due, resulting in an increase in the principal balance over time. This situation is commonly associated with graduated payment mortgages.

In a graduated payment mortgage, the monthly payments start lower and gradually increase over time. Initially, these payments may be set at a level that does not cover the full interest accrued on the loan, leading to negative amortization in the early years. As the payments increase in subsequent years, they may eventually cover the interest and start reducing the principal balance, but the early years can see the loan's balance grow rather than shrink.

This characteristic distinguishes graduated payment mortgages from other types, where typically the payments structure is designed to ensure that the loan balance decreases over time. For example, fixed-rate mortgages and balloon mortgages have structured payments that do not allow for negative amortization under normal circumstances, while adjustable rate mortgages can adjust payments based on interest rate changes but do not inherently require the level of initial payments that can lead to negative amortization as seen with graduated payment mortgages.