A borrower makes every scheduled payment on a fully amortizing fixed-rate loan. Which statement about the principal balance is generally true?
Correct Answer
A) It declines according to the amortization schedule
Why this is correct: A fully amortizing loan is structured so that the series of level payments pays off all interest accrued and repays the entire principal by the maturity date. If the borrower makes every scheduled payment, the principal balance decreases exactly as projected in the loan's amortization schedule, reaching zero at the end of the term. Why the other choices are wrong: The choice "It remains unchanged until maturity" is incorrect; that describes a non-amortizing loan (e.g., interest-only or balloon). The choice "It increases whenever interest is paid" is incorrect; paying interest does not increase the principal balance; negative amortization would cause an increase, but that does not occur in a standard fully amortizing fixed-rate loan. The choice "It changes only when property taxes change" is incorrect; property tax changes affect escrow, not the principal balance of the mortgage note itself. Exam tip: "Fully amortizing" means self-liquidating—the scheduled payments retire the debt. If payments are made as agreed, the balance consistently declines.
Why This Is the Correct Answer
Why this is correct: A fully amortizing loan is structured so that the series of level payments pays off all interest accrued and repays the entire principal by the maturity date. If the borrower makes every scheduled payment, the principal balance decreases exactly as projected in the loan's amortization schedule, reaching zero at the end of the term. Why the other choices are wrong: The choice "It remains unchanged until maturity" is incorrect; that describes a non-amortizing loan (e.g., interest-only or balloon). The choice "It increases whenever interest is paid" is incorrect; paying interest does not increase the principal balance; negative amortization would cause an increase, but that does not occur in a standard fully amortizing fixed-rate loan. The choice "It changes only when property taxes change" is incorrect; property tax changes affect escrow, not the principal balance of the mortgage note itself. Exam tip: "Fully amortizing" means self-liquidating—the scheduled payments retire the debt. If payments are made as agreed, the balance consistently declines.
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