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Definition: Zero-Coupon Mortgage
A mortgage in which principal and interest are delayed until maturity. All interest that gets accumulated is added to the principal and is payable in a lump sum amount. This is treated beneficial and as an alternative funding to low-to-moderate income housing. The principal that is to be paid increases over time as interest gets added to the previous amount, and so on. At maturity, the borrower (mortgage holder) must either pay the lump sum amount or refinance at existing interest rates. This structure is beneficial for both parties, the lender and the holder as well.
The lender would receive a discounted internal rate of return and the borrower can finance a commercial property preferably real estate property with a lesser cost, with an expectation that the appreciation of the property value over the mortgage life would be sufficient to pay off the amount that he/she owes to the lender. The zero coupon mortgage is accounted as a long term debt on the financial statements.
This is beneficial to businesses where in the cash flows are uncertain and are low or not available until the projects are not completed. In this type of transactions, the credit risk is higher in comparison to conventional loan. Therefore, such lending is only made to established commercial borrowers with good credit records.