When home prices are appreciating rapidly, negative amortization is less of a possibility than when prices are stable or dropping, particularly for the borrower who made a small cash down payment to begin with. The combination of negative amortization and depreciation in home prices can result in a loan balance that is higher than the market value of the home.
In the real estate go-go years 2000 through 2005 negative amortization became a popular way to finance ever appreciating (it seemed) homes. However, when the bubble burst in 2006 thousands of homeowners found themselves in homes that were worth far less than what was owed. As their Adjustable rate mortgages with payment caps and negative amortization re-amortized to a higher monthly payment, these same homeowners were no longer able to meet the monthly payments, nor sell for enough money to pay-off the mortgage. Their only choice was often foreclosure.
Adjustable rate mortgages with payment caps and negative amortization are usually re-amortized at some point so that the remaining loan balance can be fully paid off during the term of the loan. This could necessitate a substantial increase in the monthly payment.
Most adjustable rate mortgages have a limit on the amount of negative amortization allowed, usually 110 to 125 percent of the original loan amount. If the loan balance exceeds this amount, the borrower has to start paying off the excess.