What is Amortization?

A term commonly met in the lending field is amortization. It represents using specifically structured periodic payments in order to pay off a loan over a pre-determined time period. Those payments include the related interest and other finance charges as well as a portion that goes for the principal of the loan.

Amortization Schedule

The table depicting in details each periodic payment on the loan is called an amortization schedule, and it is usually generated with the help of an amortization calculator. Different spreadsheet programs can be also used in order to see the way numbers change under different conditions.

The amortization schedule will provide you with the best view on the way amortization functions. Such a schedule provides a good presentation of each payment and how it is applied to the loan. Additionally, you will be able to check how much you have left as a balance and how much interest you have paid since you have taken the loan.

Loan Amortization

As you make the periodic interest and principal payments on the loan your balance on the loan gradually decreases. In other words, you are "amortizing" your loan.

Generally, in the amortized loan structures the biggest portion of the periodic payments is used for the coverage of the interest in the beginning. Eventually the amount of principal being paid with each payment increases, paying off the loan balance faster.

Many people choose to make an additional payment each month and apply it to the principal balance. This saves them money from interest in the long term.

However, if you don't pay enough each payment period to cover the full interest your loan amount may actually increase as a result. This is referred to as negative amortization.

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