What is a Graduated Payment Mortgage?

Tricia Christensen
Tricia Christensen

The graduated payment mortgage refers to a structured type of home loan where increases in payments at a fixed interest rate are built into the payment structure. Loan payments don’t keep increasing after they’ve reached a certain point, but they start off at low prices that do not fully cover interest due and build up. These loans may be right for some people and are terrible for others, and it may not be as easy to find them, since lenders want to know people can not only make early payments but can make later payments and won’t have to back out of a loan.

Man climbing a rope
Man climbing a rope

There are several important features of the graduated payment mortgage. As mentioned, not all interest owed is paid, which leads to something called negative amortization. This means that size of the loan increases with each payment, but perhaps a small amount of equity is owned too. Amount of equity in early days may be very small, and in a volatile housing market it could disastrous. Any equity could quickly disappear with housing value decline and increasing interest owed. This factor does need to be considered carefully.

Another point of reflection is that any borrower must reasonably expect they will be able to accommodate higher payments as defined by the graduated payment mortgage agreement. Prices go up, predictably and dependably, and ultimately mortgage payments stop climbing. This does, however, create a fairly large element of risk, unless a person knows exactly how they expect to employed, and they can, as the saying goes, bank on it.

Some scenarios exist where it might make sense to get a graduated payment mortgage. People who are in highly employable fields, like doctors, might consider buying a home with this type of loan if they are just a few months from medical school graduation or completing residency training, especially if they find a home they love. They might already have jobs waiting that will guarantee a higher level of income that coincides with the first graduation in payments. On the other hand, there can be benefit in waiting too. This type of mortgage does tend to cost slightly more in interest payments, and total payments for the loan will be higher since early payments increase amount owed.

There are cheaper and better ways to get a home loan, but a graduated payment mortgage can make sense in certain circumstances, if one can be found. Interestingly this idea of not paying all interest owed is applied to other types of loans. Many student loans use a graduated payment structure, which helps students pay small amounts at first, but charges more as time goes on. Such a plan may be a good one, if students possess greater earnings and can afford to pay increasing loan payments at a later point.

Tricia Christensen
Tricia Christensen

Tricia has a Literature degree from Sonoma State University and has been a frequent wiseGEEK contributor for many years. She is especially passionate about reading and writing, although her other interests include medicine, art, film, history, politics, ethics, and religion. Tricia lives in Northern California and is currently working on her first novel.

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