Loan Amortization

Amortization is the repayment of a loan. It is usually used in conjunction with a time frame. For example, a 30 year loan term amortizes over a 30 year time frame.

The longer the term is for a loan the slower it amortizes. This slower amortization means a lower monthly payment. It can also mean more interest paid out over the life of the loan.

A typical loan payment involves two components:

• part of it is the interest payment,
• and part of it paying off the principal

A constant payment on a 30 year fixed loan term amortizes each month over a period of 360 months. This is normal amortization.

Amortization can also work in reverse. Minimum payment option loans, such as “1% loans” that you see advertised can give a borrower the option to pay less than an interest-only payment (the “minimum payment”). An interest-only payment keeps a loan the exact same size. It is not being paid off. Ever penny over the interest-only level is used to pay off the principal. If you pay less than the interest-only level, then you are actually adding to the size of the loan. An increase in loan size is known as “negative amortization”.

You will see 1% loans marketed under such names as:

• minimum option ARMs
• minimum payment loans
• pick a payment loans

Lenders have been experimenting with longer and longer loan terms for mortgages. First 40 year loan terms were offered. Now some lenders are offering 50 year loans.