How Reverse Amortization and Negative Amortization Work

How Reverse Amortization and Negative Amortization Works Brought to you by MyHECM.com. Mortgage and retirement resources for seniors, their families, and their advisors. Please help us out by clicking the Like and Subscribe buttons. What Is Reverse Amortization? Reverse amortization is also known as negative amortization. Reverse amortization is a type of mortgage amortization where the payments don't cover all of the interest. Is reverse amortization risky? It can be! We'll cover what to watch out for in a moment. The most familiar reverse amortization mortgages are pay-option ARMs graduated-payment mortgages and reverse mortgages. Pay-option ARMs aren't available anymore but they allowed homeowners to choose a low minimum monthly payment that didn't cover all of the interest. Pay-option ARMs proved to be highly risky for reasons we'll cover in a moment. Graduated payment mortgages also use negative amortization. At the start of the loan, the payments are low and don't cover all of the interest. The loan balance increases the first few years of the loan. The payments gradually increase over time to cover both principal and interest and pay off the balance at the end of the loan term. The most common negative amortization mortgage is the FHA-insured HECM reverse mortgage. Reverse mortgages enable seniors to tap into home equity without a mortgage payment and without giving up ownership of their homes. How Reverse Amortization is Calculated Reverse amortization is simple to calculate. First, you divide the annual interest rate by 12 to get the monthly interest rate. Next, you multiply the monthly interest rate by the loan balance to get the monthly accrued interest. Finally, you add the monthly accrued interest to the loan balance which becomes the new loan balance for the next month. Is Reverse Amortization Risky? Reverse amortization can be risky without some basic protections. Pay-option ARMs were risky because they were full recourse loans. The homeowner had to pay the shortage if their home didn't sell for enough to pay off the entire loan balance. HECM reverse mortgages are insured by FHA and non-recourse. FHA covers the shortage if the home isn't worth enough to pay off the entire loan balance. Thank you for watching! We hope this video on reverse amortization was informative. Please click the Like button to help us get the word out.