Loan amortization interest?

Question

I understand loan amortization for the most part. I understand you are figuring out a schedule of equal payments over a period time, and how often the interest is compounded, along with the given iterest and principal of the loan.

My question is, Why does the amount of interest decrease over time as the principal falls. 

I know the payments add up to the total amount of the principal plus all the interest compounded, so why isn't the interest equally split. My book doesn't say why. they just say that it happens.

Thanks

probably not something i need to know, but it's important

falsi fiable · Accepted Answer

At the beginning of each month banks multiply your monthly interest rate (the annual rate divided by 12) by the loan balance. As the loan balance decreases, the amount of interest decreases.

The amortization schedule was invented to provide an equal payment schedule over the life of the loan.

Riot106 · Answer

That is because the interest on any given payment is based on the outstanding principle at that moment in time.

For instance: if you borrow $10,000 at 5% APR compounded monthly to be repaid over 60 months, then your payments will be $188.71. The interest portion of this is the outstanding principle ($10,000) x the rate (5%/12, since we are doing monthly computations) = $41.67. The difference between the payment and interest charge is the principle payment ($188.71 - $41.67 = $147.05).

So the next month the outstanding balance is $10,000 - $147.05 = $9,852.95. You again are paying the same amount of $188.71 but the interest portion is reduced to (9852.95 * .05/12 = 41.05) and the priciple payment goes up by the same amount.

Your interest charges diminish as you pay off your balance.

God Is Good · Answer

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timothy p · Answer

banks only charge interest on the amount you owe.  If you pay monthly, the balance falls monthly.  More is applied to the principle and less to the interest.

Anonymous · Answer

On the most recent versions of Excel, do insert function, go to PMT under the financial tab. Then put in the first line the annual rate divided by 365 (to get the daily value). That should give you an accurate result.

Jose B. · Answer

I think it is much easier to use an online mortgage calculator that generates an amortization schedule. You can google mortgage calculator and several will pop up on the results.
You can use the one on my blog: http://www.josebarrios.com/mortgage-amortization-table
Or this other one: http://www.amortization-table.net/

Hope this helps you.

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Loan amortization interest?

6 Answers