When does negative amortization typically occur?

Negative amortization typically occurs when the payments do not cover the monthly interest. In this scenario, the borrower is making payments that are less than the interest accruing on the loan. As a result, instead of reducing the principal balance, the unpaid interest is added to the principal, which can lead to an increasing balance over time. This situation is commonly seen in loans with adjustable rates or in situations where the borrower has opted for a lower monthly payment structure, such as interest-only payments.

The other options do not align with the definition of negative amortization. For example, if payments exceed the interest, the loan balance would be decreasing rather than increasing. A refusal to pay would likely result in default, and paying off a loan early typically avoids any issues of amortization altogether. Understanding this concept is crucial for borrowers to manage their loans effectively and avoid unexpected increases in their debt obligations.