Amortization Explained
What is Amortization
Simply stated, amortization is the process of paying off a loan on a systematic repayment schedule. An amortized loan is one where the amount borrowed will be decreased over a period of time and paid off by a specific date.
This concept can be illustrated by looking at an amortization schedule, which illustrates how much of your monthly loan payment goes towards interest and how much goes to the amount you borrowed (the principal). Although your monthly payment will stay the same (if you have a fixed rate mortgage), the percentage of that payment that goes to principal and interest changes over time.
How it works
Interest is calculated on the amount you owe. Let’s say you took out a 30 year mortgage for $150,000 at 6.5 percent. Your loan payment is $948.10. The first month, you owe interest on $150,000, so the interest portion of your payment is $812.50. That leaves $135.60 applied against your principal. The next month, you owe interest on $149,864.40 ($150,000 minus $135.60). The interest portion of your payment is now $811.37, with $136.34 going towards the principal.
How to read an amortization schedule
An amortization schedule is a table which breaks down the principal and interest mix of your payment month to month for the life of your loan (360 months in the case of a 30 year mortgage). Often the schedule also includes how much total interest has been paid to date and what your mortgage balance is month to month. Many lenders include an amortization schedule on your loan statements. You can also see an amortization schedule by using the GetSmart loan payment calculator. Simply type in your numbers, click calculate, and then click the “See your payment amortization table” link underneath your results.
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