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Today's payment option loans are a little more sophisticated than what mortgage brokers once referred to as “neg ams”. Neg am is trade talk for negative amortization. But regardless of the increased sophistication, an option payment ARM (adjustable rate mortgage) still has the risk of negative amortization.

What Amortization Means

To amortize is to lessen the debt or principal amount. An interest only payment loan doesn't touch the principal. Thus it is a non-amortizing loan that will call or have the principal due, which is the original loan amount, after a short few years. Fifteen and 30-year amortized fixed loans have a complex formula arrangement that creates mostly interest payments for the first few years. This arrangement assures that lenders will make more in interest during the early phase of the loan before you sell or refinance.

How ARMS Work

All ARMs or adjustable rate mortgages have two basic components to determine the payments. One is the index. An index is a figure, published daily in most newspaper financial sections, that fluctuates according to the economy. The most commonly used indices are the T-Bill (Treasury Bill), the LIBOR (London International Bank Offering Rate), or the COFI (Cost Of Funds Index), also called the “coffee loan" by mortgage brokers.

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