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What Are the Different Types of Amortization?

Amortization refers to the length and repayment period of a loan.
Amortization analysis is a formula used to determine the creditworthiness of an applicant before accepting the loan application.
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  • Written By: Keith Koons
  • Edited By: Lauren Fritsky
  • Last Modified Date: 20 October 2014
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Amortization is a financial term that describes the length and general repayment period of any type of loan. There are several different types that vary by industry, and each of them meets a specific need. Some of the more common applications are business amortization, amortization analysis, tax law, and zoning regulations.

Business amortization often has several variables when it comes to repayment times and interest rates. For example, a standard business loan may be at 1 percent interest for the first 36 months and then rise to 12 percent if it has not been paid in full. There could be three or even four different break points where the terms of the loan change. Many such loans are often drafted to encourage corporations to pay off the loan amount as quickly as possible, with increasing penalties if they do not. Negative amortization is a similar concept that has a set time period for repayment. If the loan is not paid in full by the agreed-upon date, the interest rate dramatically increases.

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Amortization analysis is a formula used to determine the creditworthiness of an applicant before accepting the loan application. The mathematical equation determines the maximum amount of time that will be required for the loan to be paid in full to factor in a “worst case” type of scenario, and then the overall cost of lending those funds over that time period is calculated. If the financial institution can not charge in excess of the cost of the loan for whatever reason, then the application in denied.

Tax law computes how much interest will be collected over any given period of time in order to plan future budgets, which in essence, is preparing an amortization schedule on each and every taxpayer. These statistics often vary from the actual amounts collected since tax revenues can drastically change over a short period of time, but without this type of prediction, a state entity has no way to plan ahead. Of course, this is also why several state and local governments often have serious budget problems.

Zoning regulators also use a similar method to plot when contracts expire on city or state land. These schedules allow quick access to determine when certain plots will become available for rezoning or other official uses, and a copy is also given to the tenant. These types of schedules are also implemented when the government seizes property under eminent domain laws so that both parties know the maximum occupancy date.

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subway11
Post 4

@BrickBack - I know there are a lot of people out there that probably wished they hadn’t pulled out equity from their home.

I know that some people do pull out equity from their homes when they retire in the form of a reverse mortgage. A reverse mortgage allows the bank to give the homeowner a fixed payment every month as long as they live in the home.

You have to be a certain age and there are a lot of fees associated with this type of arrangement. I know that there are some financial advisors that really don’t like reverse mortgages because they say that the fees are really too high and it is not worth it.

I guess if you are retired and really need income this can be an option, but you really have to read the fine print carefully. I read that the heirs have to pay back all of the money borrowed including all of the fees for the reverse mortgage before they can claim the home.

BrickBack
Post 3

@SauteePan - I wanted to add that I think a lot of people suffer from negative amortization because they borrowed more than their homes are worth. I was in the market a few years ago for a beachfront condo and I was looking at a short sale property and actually placed an offer.

The problem was that the seller had a first mortgage on the property for 80% and a 20% second mortgage for the remaining value of the home. He bought the property at the height of the real estate market and he owed $470,000 and similar properties were going for $200,000.

This is why he had to do a short sale because he could no longer afford the payments because he had a variable interest rate that already reset. I think that a lot of investors got into trouble because they were cashing out the equity in their homes in order to buy more properties because the real estate prices were appreciating so quickly that people thought that this frenzy was never going to end.

SauteePan
Post 2

@Cafe41 - Good for you. I know that I always look at a payment calculator whenever I buy real estate just to have an idea of what my mortgage would be like.

This is what I did when I bought my last property and although there are additional expenses like homeowners insurance and maintenance fees at least I had a ball park figure of what my payments were going to be like.

There are a lot of these mortgage payment calculators available on these online real estate sites which I think is a great idea.

cafe41
Post 1

I always look at my mortgage payment calculator to see when I will pay off my home. It actually motivates me and keeps me on track. There are a lot of free amortization schedules online that you can print out and keep on your refrigerator.

That is what I did, and I paid off my home when I turned 32, which was a few months before I had my daughter. It was an incredible feeling because I planned on staying home with my daughter and because I paid off my home, I knew that it was not going to be a problem.

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