Simple or Compound

• There are two types of mortgages in the United States. One accrues interest on a monthly basis, and commands simple interest unless it involves negative amortization, in which case it becomes a compound interest mortgage. Negative amortization occurs when the mortgage allows the interest to be calculated on a balance, which includes previously unpaid interest. The second mortgage type accrues interest on a daily basis and is never compounded. It is commonly known as a simple interest mortgage.
  
  

Calculations

• You pay simple interest on your loans for a fixed period. To calculate simple interest, multiply your principal by the interest rate then by the period, or time. For example, if you borrow $10,000, which you must pay back in four years, and the lender assesses a 6 percent simple interest, total interest due on your loan is $2,400, ($10,000 X .06 = $2,400).
  
  In the case of compound interests, lenders add any accumulated interest to the principal, and then apply the interest rate to this amount. The resulting amount is compound interest. Pay attention to how frequently interest on your mortgage compounds. The higher this frequency, the higher your interest payments are likely to be, and the less of your principal you will pay back with each of your installment payments.
  
  

Differences

• The main difference between simple interest and compound interest is that the principal remains fixed throughout the loan period when lenders use simple interest, while, with compound interest, the principal changes as interest rates of future months accumulates. Also, simple interest is generally charged on short-term loans, while lenders use compound interest for long-term loans. Compound interest grows faster than simple interest and rises with the passage of time.
  
  

Benefits of Simple Interest Mortgages

• A simple interest mortgage is a home loan that constitutes interest calculated on a daily basis. When compared to compound interest mortgages, simple interest mortgages are more advantageous to borrowers because a simple interest mortgage is normally lower and interest rates on such loans are only based on the principal. Also, if you prepay your loan, your interest amount decreases and the cost of your loan will decrease.
  
  

Warnings of Simple Interest Mortgages

• You should be cognizant of the difference between a simple interest mortgage and a standard mortgage, which calculates interest monthly. A simple interest mortgage penalizes you for making late payments. Over the life of your loan, therefore, you pay more in interest when payments are late than if you make payments timely. Conversely, standard interest mortgages, generally offer a 15-day grace period, there are no penalties if you pay within the 15-day grace period.