Legal Definitions - PLAM

PLAM stands for Price-Level-Adjusted Mortgage.

A Price-Level-Adjusted Mortgage (PLAM) is a type of home loan where the outstanding principal balance of the mortgage is periodically adjusted based on changes in a general price index, such as the Consumer Price Index (CPI). Unlike traditional mortgages where the principal balance only decreases as payments are made, with a PLAM, the principal can increase or decrease over time to maintain its real purchasing power. The interest rate on a PLAM is typically fixed, but it is applied to this adjusted principal balance, meaning the actual interest paid can fluctuate with the principal.

Here are some examples to illustrate how a PLAM works:

• Example 1: Impact of High Inflation

  Imagine a homeowner, Sarah, takes out a PLAM for her new house. In the first few years of her mortgage, the economy experiences a period of significant inflation, causing the Consumer Price Index to rise sharply. As a result, the principal balance of Sarah's PLAM is adjusted upwards each year to reflect the decreased purchasing power of money. Even though Sarah makes her regular monthly payments, she might find that her outstanding loan balance has actually increased, or decreased very little, because the inflation adjustment has added to the principal faster than her payments could reduce it. This scenario demonstrates how a PLAM protects the lender's investment from inflation, but can lead to a growing debt for the borrower during inflationary periods.

• Example 2: Benefit During Deflation

  Consider a different homeowner, David, who also has a PLAM. Several years into his loan, the economy enters a period of deflation, where general price levels begin to fall. In this situation, the price index used for David's PLAM decreases. Consequently, the outstanding principal balance of his mortgage is adjusted downwards. This means that, in addition to the reduction from his regular payments, the principal amount David owes is further reduced by the deflationary adjustment. This example shows how a PLAM can benefit a borrower if the economy experiences deflation, effectively reducing the real value of their debt.

• Example 3: Lower Initial Interest Rate

  A young couple, Maria and Alex, are comparing mortgage options. They notice that a PLAM offered by a particular bank has a significantly lower fixed interest rate compared to traditional fixed-rate mortgages. The bank can offer this lower rate because the PLAM structure shifts the risk of inflation from the lender to the borrower (through principal adjustments). Maria and Alex decide to take the PLAM, hoping that inflation will remain low and stable. If inflation indeed stays low, they will benefit from lower interest payments over the life of the loan without significant upward adjustments to their principal. This illustrates how PLAMs can offer attractive initial interest rates in exchange for the borrower accepting the risk of principal adjustments based on price levels.