Insurance

An In-depth Look at Loan Amortization

An In-depth Look at Loan Amortization

Amortization is a term used to describe the process of spreading payments out over time. The word refers to two unique processes, namely loan amortization and asset amortization. Asset amortization refers to costing an intangible asset over some time.

When we talk about loan amortization, it refers to the relatedness between loan payments and types. An amortized loan is a type of finance that is repaid over a defined period. The borrower pays an allocated amount every month for the duration of the loan, with the first installment going toward interest and the remaining amount going toward the outstanding loan principal. Until the loan is paid off, more of each payment goes toward principal and less toward interest.

The minimum monthly payment is determined by loan amortization, although an amortized loan does not prevent the borrower from making additional payments. Any amount paid more than the minimum monthly debt payment is usually applied to the loan principal. This allows the borrower to save money on total interest over the loan’s term.

Difference between amortized and unamortized loan

The repayment of the Principal fee on an amortized loan is spaced out over the loan’s duration, indicating that the borrower’s monthly payment is split between interest and the loan principal. Also, the monthly payments on an amortized loan are greater than monthly payments on an unamortized loan of the same amount and interest rate, and this is because the borrower pays interest and principal during the loan term.

While on the other hand, an unamortized loan requires just interest payments for the term of the loan. At the end of the loan term, the borrower may be required to make a final inflated payment for the entire loan balance. As a result, monthly payments are often cheaper; however, inflated payments might be difficult to pay all at once, so planning and saving for them is essential. Alternatively, a borrower might make extra payments toward the loan principal during the loan term.

Amortization of Loans

While many utilize an e-loan calculator or excel spreadsheet, some calculate by hand using the generic formula of the total loan amount, the loan amortization period (referring to several years for loan repayment) payment regularity (monthly or quarterly), and the interest rate for the amortization of your loan.

As a borrower, if you wish to pay back your loan without exhausting the full length of the loan duration, that’s possible and there are two ways to achieve this.

Partial Amortization 

In simple terms, this plan provides you the opportunity to pay a substantial amount over the set amount for the repayment on the due date. This will translate to a reduction in your monthly payment as well as a reduction in the interest you pay the bank.

Complete Amortization

With this plan, you will be required to make either a single payment or a series of payments that account for all interest accrued until the next payment date. Note that if your payments are on time, you are entitled to request a loan closure from the lender as well as obtain a certificate of assurance.

About the author

Ajisebutu Doyinsola

Doyinsola Ajisebutu is a journalist and prolific writer who takes a special interest in Finance, Insurance, and the Tech world.