What occurs when a borrower's payment is not sufficient to cover the interest due on a loan?

When a borrower's payment is not sufficient to cover the interest due on a loan, it results in negative amortization. This means that instead of the loan balance decreasing over time, it actually increases because the unpaid interest is added to the principal balance. As a consequence, the borrower owes more money than initially borrowed, which can lead to financial difficulties if the trend continues over time.

Negative amortization often occurs with certain types of loans, such as adjustable-rate mortgages with payment options that include interest-only payments or very low minimum payments. Borrowers may be attracted to these loans due to lower monthly payments initially, but if the payments do not cover interest costs, the overall debt grows, putting the borrower at risk of owing more than the property is worth.