Amortization is a term
that you don’t hear all that often but it is something
we have all done at one point of a lives or another.
In fact many people are doing it right now. Amortization
is when you periodically pay off a loan. This could
be anything from a car, goods or furniture. Paying a
mortgage on your own home is a form of amortization
and interestingly enough they both have ‘mort’
within them (a‘mort’ization and ‘mort’gage)
which means to kill – which fits perfectly for
these terms as it is exactly what you are doing. You
are paying off your loan until it has been eliminated
– killed, dead, no more or however else you want
to put it.
The process of amortization is an easy one to understand
once you know the basics and get the idea of how it
all works. It is the process of paying off your loan
through a set number of periodical payments. A typical
payment is calculated by the whole of your loan or principle,
the amount of months/payments you have to pay it back
and the interest rate.
So for example if you bought a home worth $150,000
and you put down $20,000 deposit you are left with your
principle of $130,000. You will need to get a loan for
this amount and pay this bacl monthly over 30 years
with the interest rate of 7%
So you would work out your monthly payments like this:
Divide your principle (the amount of your loan) which
is $130,000 with how long you have to pay it off. In
this case it would be 30 years or 360 months, and then
you add your interest of 7% to your monthly payments.
This ends up to be around $865.00. This would be your
monthly payments.
Another thing you should know with amortization loans
is that you pay off the interest first then whatever
is left comes off your principle loan. But understand,
this isn’t an interest only loan, as you do pay
off parts of your principle in the same payment. For
instance with your first repayment of $865.00, approximately
$758.00 of that will be interest and $107.00 will be
coming off your loan amount. This will take your loan
to $129,893.00, but as your loan payments go on your
amount of interest in each payment will go down. The
amount you are paying off of the actual principle will
go up. For another example your two hundredth payments
will be like this, your interest out of the $865.00
will be about $526.00 and the amount coming off of your
actual loan will be $339.00. This will bring your loan
down to $89,806.00. Can you see the difference from
your first repayment?
As you continue to pay your repayments, your principle
amount will be outweighing the interest amount to look
something like this: When you make that 300th payment
of $865.00, the interest amount will be $258.00 and
the amount coming off your loan will be $607.00 taking
the total of your loan to $43,682.00. With your second
to last payment your interest amount out of the monthly
repayment will have dramatically dropped to $10.00 while
your principle payment would have risen to $855.00
As you can quite clearly see the significance of each
payment greatly changes as you get further and further
on in your repayments. You start out paying mostly interest
and in the end the majority of the monthly payment goes
toward cutting down your initial loan amount.
Amortization is a delicate process of numbers which
would take quite some time to figure out on your own
so luckily there are many amortization calculators free
to use on the internet. Use these to help you work out
your monthly cost on a loan before you decide that this
type of loan is for you. This will help you to know
if it will fit into your budget smoothly or not. When
going for loans many times there will be an accountant
who will work all of these figures out precisely for
you and some even give you a table so you know exactly
where your money is going each month and whether it
is off of interest or your actual loan.
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