Question 108

Negative amortization is an increase in mortgage debt that occurs when the monthly payment is not large enough to cover the interest due.

Negative amortization occurs when the payments made on a loan are insufficient to cover the interest owed, resulting in a growing balance over time. This situation can lead to a larger total amount owed than the initial loan amount.

A) the number of basis points a lender adds to an index to determine the interest rate of an adjustable-rate mortgage

This option describes a method of calculating interest rates on adjustable-rate mortgages but does not relate to the concept of negative amortization. It is incorrect because it does not address the accumulation of debt due to insufficient payments.

B) the result of every interest-only mortgage loan

While interest-only mortgage loans can lead to negative amortization if the borrower does not eventually pay down the principal, this option is too broad and not universally true. Not all interest-only loans result in negative amortization, making this option incorrect.

C) insurance coverage on real estate that compensates the owner for physical damage to a property from fire, wind, or other hazards

This option refers to property insurance and is entirely unrelated to the concept of negative amortization. It does not discuss loan payments or mortgage debt, rendering it incorrect.

D) an increase in mortgage debt that occurs when the monthly payment is not large enough to cover the interest due

This option accurately defines negative amortization, explaining how insufficient payments lead to an increase in the overall mortgage balance. Therefore, it is the correct choice.

Conclusion

Option D is definitively correct as it directly describes the phenomenon of negative amortization, where the borrower's payments do not cover the accruing interest, resulting in a higher debt. All other options fail to accurately define negative amortization, either addressing unrelated concepts or misrepresenting the conditions under which it occurs.