What Is Negative Amortization?

What Is Negative Amortization?

Negative amortization occurs when a borrower's scheduled loan payment is less than the interest accruing on the loan in that period. Instead of the balance decreasing, the unpaid interest is added to the principal balance, causing the balance to grow over time. You can make every scheduled payment and still owe more than you originally borrowed.

How It Happens

Negative amortization typically occurs with payment-option ARMs (now largely prohibited for consumer mortgages under CFPB rules) and with income-driven student loan repayment plans where income-based payments do not cover accruing interest.

Example: $200,000 Loan

If the interest due is $900/mo but the payment made is only $600, $300/mo is added to the balance. Over one year of making only the minimum, roughly $3,600 gets added to the starting balance, and the following year's interest is calculated on that larger amount -- the shortfall compounds until the loan hits its recast cap.

The Danger

If a loan negatively amortizes for an extended period, the balance can grow to exceed the original loan amount. For mortgage borrowers, this can result in an LTV above 100%, eliminating equity and making refinancing or selling without cash at closing impossible.

Regulatory Response

The CFPB's Qualified Mortgage (QM) rule prohibits negative amortization features on QM mortgages, effectively eliminating payment-option ARMs from the mainstream residential mortgage market. The federal Repayment Assistance Plan (RAP), which replaced SAVE on July 1, 2026, carries interest subsidies that prevent balance growth when payments do not cover interest.

Common Negative Amortization Mistakes

Treating the minimum payment option as normal. On neg-am loans, the low minimum payment is specifically the option that causes the balance to grow.

Assuming the full loan term applies before anything changes. The recast can trigger years early, once the balance hits its cap (often 110-125% of the original loan).