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WHY YOUR LOAN AMOUNT REDUCES SLOWLY 7/2/2007

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WHY YOUR LOAN AMOUNT REDUCES SLOWLY

EVER WONDERED WHY YOUR LOAN DOESN’T SEEM TO GET ANY SMALLER ?
FIND OUT WHY YOUR LOAN DECREASES SLOWLY IN THE EARLY YEARS
SEE IF YOUR LOAN IS DECREASING AS QUICKLY AS IT SHOULD

When you take out a loan over a certain number of years the lender calculates the number of repayments and the dollar amount of those repayments that are required to ‘amortize’ (reduce) the debt (amount borrowed plus interest) to zero.

The repayments are of equal dollar amounts and are made at regular periods (usually monthly, fortnightly or weekly).

The repayments are calculated to cover the amount borrowed plus the interest to be paid on the borrowed amount.

When interest rates are increased either the repayment amount will be increased or the number of repayments will be increased because there is an ‘increase’ in interest on the borrowed amount.

When interest rates are reduced, either the repayment amount will be reduced or the number of repayments will be reduced because there is a ‘reduction’ in interest payable on the borrowed amount.

Each periodical repayment comprises an amount to cover the interest charge for that period with the balance of the repayment amount being applied to the reduction of the principal amount borrowed.

In the early periods of a loan the interest charged is higher than in the later periods because the loan amount is higher in the early periods than in the later periods. The majority of the repayment goes toward paying the interest on the loan with only a small amount being ‘left over’ to reduce the principal (amount owing).

As the loan amount slowly reduces, the interest charge also reduces, leaving more of the repayment to go toward reducing the principal (amount owing).

In the later periods of a loan agreement the majority of the repayment is applied to reducing the principal owing.

The following example will help to show how repayments are divided between ‘interest’ and ‘principal reduction’:

Loan Amount: $300,000 . 00 *
Interest Rate: 7% p.a.(charged monthly)
Term of Loan: 25 years
Periodical Repayments: Monthly
No. of Repayments: 300
Repayment Amount: $2,120.34 per month
Total Interest Paid over 25 years: $336,176 . 08
AMORTISATION SCHEDULES 1st 12 MONTHS

1st Repayment of $2,120.34: $1,783.56 goes toward interest.
Only $336 . 78 goes toward reducing the principal owing. The large majority of the repayment goes toward
paying ‘interest’, with only a small amount remaining to reduce the principal owing.

AMORTISATION SCHEDULES 10h YEAR

120th Repayment ( on 01/07/2017 ) of $2,120.34: $1,406 . 81 goes toward interest.
$713 . 53 goes toward reducing the principal owing.
i.e. after 120 months.
The Principal Owing is $235,916 . 54 although you have made 120 repayments of $2,120 . 34 totaling $254,440 . 80
$190,357 . 34 has gone toward paying interest and only $64,083 . 46 has gone toward reducing the principal owing.
After 10 years … you still owe $235,916 . 54 of the original $300,000 borrowed !!

AMORTISATION SCHEDULES 17 Years and 6 Months

210th Repayment ( 01/12/2024 ) of $2,120 . 34: $888 . 51 goes toward interest.
$1,231 . 83 goes toward reducing the principal owing.
i.e. after 17 years and 6 months you still owe $149,449 . 28.
After 173 months ( of the 300 month loan ) you reached the ½ way mark and from that point most of the repayments now go toward paying reducing the principal owing.
It has been a slow process in reducing the principal owing, but now it starts to speed up.

AMORTISATION SCHEDULES AFTER 25 YEARS

300th Repayment ( 01/07/2032 ) of $2,120 . 34:
$12 . 93 goes toward interest. $2,107 . 41 goes toward reducing the principal owing.

You still owe $73 . 64 after that supposed last payment … but wait … you will probably be hit with an
additional $74 . 64 due to interest recalculations !!!

Total Interest Paid over 25 years = $336,176 . 08

These figures are calculated on the assumption that the interest rate remains at 7%.

We have not considered the effects of fees … look at the next section !!!

Author Name
Kevin Nowland -

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