What is a Pledged Account Mortgage (PAM)?
A Pledged Account Mortgage (PAM) is a unique form of home purchase loan where the borrower pledges a sum of money in a separate account. This pledged amount is utilized to subsidize mortgage payments during the initial years of the loan term. By doing so, the immediate monthly payments for the borrower are lowered, making the loan more affordable at the onset. This approach is particularly beneficial for borrowers who may anticipate higher income in the future or need greater cash flow flexibility in the early years of the mortgage.
Detailed Explanation
- Loan Principal: In a PAM, the loan principal includes the loan amount along with the pledged account funds. Payments are calculated based on this combined sum.
- Pledged Account: A specific amount of cash is held in a pledged account, which the lender uses to reduce the borrower’s monthly mortgage payments initially.
- Reduced Initial Payments: The amortization schedule for PAMs shows lower payments in the early years because the pledged account supplements the borrower’s contributions.
- Gradual Adjustment: Over time, as the funds in the pledged account are diminished, the borrower’s payment obligations gradually increase to cover the full mortgage payment.
Example:
Abel wants to purchase a home with a loan principal of $40,000 and makes a down payment of $10,000. Out of this down payment, $5,000 is placed in a pledged account. Abel’s mortgage payments are based on a $45,000 principal, but for the first three years, the $5,000 from the pledged account reduces these payments, making them more manageable.
Frequently Asked Questions (FAQs)
Q: How does a Pledged Account Mortgage help in managing cash flow?
A: A PAM helps by reducing the monthly mortgage payments during the initial years when a borrower might need more liquidity. The additional funds come from the pledged account, making the early years more affordable.
Q: Is the interest rate on a Pledged Account Mortgage different from other mortgages?
A: The interest rate on a PAM may be similar or slightly higher than traditional mortgages due to the additional administrative aspects associated with maintaining the pledged account.
Q: Can I withdraw funds from the pledged account?
A: No, the funds in the pledged account are locked in and cannot be withdrawn by the borrower until they are depleted as per the loan terms to supplement the mortgage repayments.
Q: What happens if the pledged account is exhausted?
A: Once the pledged account funds are exhausted, the borrower must start making full mortgage payments as initially scheduled without further supplementary relief.
Q: Are there any tax benefits associated with a Pledged Account Mortgage?
A: Like other mortgage types, interest paid on a PAM may be tax-deductible, but the specifics can vary based on individual tax situations. Consultation with a tax advisor is recommended.
- Graduated Payment Mortgage (GPM): A mortgage with initially low payments that gradually increase over time. Unlike PAM, GPM does not involve a separate pledged account.
- Collateral: An asset that a borrower offers to a lender to secure a loan.
Online Resources
References
- Federal Reserve Board. “Consumer Guide to Mortgages.” Accessed 2023.
- National Association of Realtors. “Financing Your Home.” Accessed 2023.
Suggested Books for Further Studies
- “The Mortgage Professional’s Handbook: Succeeding in Today’s Dynamic Mortgage Market” by Jess Lederman & Thomas J. Healy
- “Investing in Real Estate” by Gary W. Eldred
- “Real Estate Finance & Investments” by William Brueggeman & Jeffrey Fisher
Real Estate Basics: Pledged Account Mortgage (PAM) Fundamentals Quiz
### What is a Pledged Account Mortgage (PAM)?
- [x] A loan where a borrower sets aside a sum in a pledged account to reduce initial mortgage payments.
- [ ] A loan where monthly payments are the same throughout the loan term.
- [ ] A type of high-interest loan typically used by subprime borrowers.
- [ ] A loan exclusively for commercial real estate funding.
> **Explanation:** A PAM involves setting aside a pledged amount to reduce the initial mortgage payments.
### How does the pledged account in PAM assist the borrower?
- [x] By subsidizing the mortgage payments in the initial years.
- [ ] By earning interest that goes towards loan repayment.
- [ ] By reducing the interest rate of the mortgage.
- [ ] By allowing withdrawals to cover personal expenses.
> **Explanation:** The pledged account reduces mortgage payments in the initial years by subsidizing them.
### What happens to the mortgage payments after the pledged account is depleted?
- [ ] The mortgage payments halt.
- [x] The borrower pays the full mortgage payment as scheduled.
- [ ] The interest rate is automatically adjusted.
- [ ] The loan term is extended.
> **Explanation:** Once the pledged account is exhausted, the borrower must make the full mortgage payments without supplementary relief.
### When is a Pledged Account Mortgage particularly beneficial for borrowers?
- [x] When borrowers anticipate higher income in the future.
- [ ] When the market interest rates are extremely high.
- [ ] When purchasing commercial property.
- [ ] When needing a short-term loan.
> **Explanation:** A PAM is beneficial for borrowers who expect higher income in future periods but need lower payments initially.
### Can a borrower withdraw funds from the pledged account at any time?
- [ ] Yes, for any personal use.
- [ ] Yes, after the first year.
- [ ] Yes, if the loan is refinanced.
- [x] No, the funds are locked until depleted by the mortgage agreements.
> **Explanation:** The pledged account funds are locked and cannot be freely withdrawn by the borrower.
### How are interest rates for a PAM typically structured compared to traditional mortgages?
- [ ] Significantly lower.
- [x] Similar or slightly higher due to additional administrative aspects.
- [ ] Fixed and unchanging.
- [ ] Proportionate to the tied account value.
> **Explanation:** PAM interest rates can be similar to or slightly higher than traditional mortgages, considering the administration of the pledged account.
### What happens if the borrower defaults on a PAM loan?
- [ ] The pledged account can automatically renew.
- [ ] The outstanding amount of the loan is forgiven.
- [x] The lender draws from the pledged account to cover payments.
- [ ] The borrower gets an instant loan modification.
> **Explanation:** If a borrower defaults, the lender can use the pledged account funds to cover mortgage payments.
### How does a PAM compare to a Graduated Payment Mortgage (GPM)?
- [ ] PAM involves higher interests throughout the loan term.
- [ ] GPM involves a pledged account as well.
- [x] GPM has scheduled increasing payments, while PAM uses a pledged account to reduce early payments.
- [ ] Only PAM adjusts payments based on market changes.
> **Explanation:** A PAM involves a pledged account while a GPM involves gradually increasing payments without needing additional pledged funds.
### Which of the following scenarios is least likely to benefit from a PAM?
- [ ] A family predicting an increase in household income.
- [x] An individual needing stable, unchanging payments.
- [ ] A person recently employed and expecting promotions.
- [ ] A couple planning for incremental salary hikes.
> **Explanation:** PAM is not ideal for individuals requiring stable, unchanging payments due to its dynamic structure based on the depletion of the pledged account.
### What is a key characteristic of the Pledged Account in PAM?
- [ ] Engages in investment activities.
- [ ] Reduces the term of the mortgage.
- [x] Lowers initial mortgage payments.
- [ ] Increases the property’s resale value.
> **Explanation:** The key characteristic of the pledged account is to lower the initial mortgage payments by subsidizing with pledged funds.
