The Complete Guide to Loans and Amortisation

Almost every consumer loan is amortised: a fixed monthly payment that steadily converts the balance from interest-heavy to principal-heavy. Understanding the mechanics turns borrowing from a mystery into a decision you can model.

The three numbers that define a loan

• Principal: the amount borrowed.
• Rate: the annual interest rate.
• Term: how long you pay (years × 12 payments).

These three fix the monthly payment — the fourth number nobody can change. The payment formula balances everything so that after n payments the balance reaches exactly zero.

How each payment splits

Each month: interest is charged on the remaining balance at the monthly rate, and the rest of your fixed payment reduces principal. Because the balance falls every month, the interest portion falls too — and the principal portion rises. This is the entire plot of an amortisation table.

The cost of a long term

Doubling a 30-year term to... no, the example that matters: compare a 15-year and 30-year loan at the same rate. The 30-year payment is lower, but total interest is roughly triple. Shorter terms force higher payments and save enormous interest.

Extra payments: the lever

Extra payments reduce principal directly, cutting the balance that future interest is charged on. On the 30-year loan above, an extra 200/month pays it off in ~18 years and saves ~100,000 in interest — an effective, guaranteed, tax-free return equal to the loan rate.