Detailed Definition
A Price-Level-Adjusted Mortgage (PLAM) is a type of loan where the payment amounts are adjusted according to the rate of inflation. This mechanism ensures that the nominal payments accommodate inflation changes, providing a predictable payment stream over time. PLAMs are typically structured where borrowers initially enjoy low nominal payments, which adjust upward as inflation rises. These types of mortgages are more commonly found in countries with high inflation rates and are relatively rare in the United States.
Examples
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Adjustment Based on Inflation:
- If an initial PLAM of $100,000 is set with annual payments of $4,800, and the inflation rate after the first year is 10%, the principal amount would be adjusted to $110,000. Consequently, the payment for the second year would increase to maintain the real value, likely around $5,280 annually.
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Low Initial Payments:
- A homeowner takes a $150,000 PLAM with initial monthly payments of $500 ($6,000 annually). In the first year, inflation is 5%, increasing the loan principal to $157,500 and annual payment adjustment to $6,300, reflecting the higher inflation adjusted prices.
Frequently Asked Questions
What makes a PLAM different from a conventional mortgage?
A PLAM adjusts its payments based on inflation rates, ensuring that the payments’ real value remains stable over time. Conventional fixed-rate mortgages have fixed payments that can be eroded by inflation.
Why are PLAMs not common in the United States?
The United States experiences relatively low and predictable inflation rates, rendering such inflation-adjusted instruments unnecessary compared to countries with higher inflation volatility.
What is the main benefit of a PLAM?
The main benefit is the protection it offers borrowers and lenders against inflation-induced erosion of payment values, making financial planning more predictable over the loan term.
How does an increase in inflation affect a PLAM?
An increase in inflation results in a higher adjusted principal, which in turn increases the upcoming payment amounts to maintain the loan’s real value.
Is a PLAM beneficial for all borrowers?
PLAMs can be beneficial for those in high inflation economies as they avoid the real value erosion of payments. They may not be suited for borrowers in low inflation environments due to the potential for payment increases.
Related Terms
- Adjustable-Rate Mortgage (ARM): A mortgage with an interest rate that adjusts periodically, typically tied to a benchmark interest rate that reflects prevailing conditions.
- Fixed-Rate Mortgage: A mortgage with a fixed interest rate and, consequently, fixed payments over the life of the loan.
- Inflation: The rate at which the general level of prices for goods and services rises, causing purchasing power of currency to fall.
- Nominal Value: The face value of a principal amount or payment without adjustments for inflation.
- Real Value: The value of an amount in terms of purchasing power, taking inflation into account.
Online Resources
- Investopedia on Adjustable-Rate Mortgages
- Federal Reserve: Understanding Mortgages
- Global Property Guide: Mortgage Lending Encyclopedia
References
- Mortgage Banking Law: Gabrielli, Smith & Levin, National Mortgage Law Firm.
- International Financial Management: Madura, Ing.
- Inflation-Protected Securities: Hay, Quantitative Economics Press.
Suggested Books for Further Studies
- “Principles of Real Estate Finance” by Charles A. Long
- “The Intelligent Asset Allocator” by William J. Bernstein
- “Economics for Real Estate Decisions” by Grant, Dornbusch, Shock
- “Fundamentals of Real Estate Investment” by Austin J. Jaffe & C. C. Sirmans
Real Estate Basics: Price-Level-Adjusted Mortgage Fundamentals Quiz
