Definition
An amortization schedule is a comprehensive table that lists each periodic payment on a loan over time. It breaks down how much of each payment goes toward interest and how much toward the principal balance. The schedule also includes the remaining unpaid balance after each payment is made.
Examples
Example: An amortization schedule for a $1,000 principal, 5-year self-amortizing loan at 10% interest with annual payments is shown in Table 2.
Table 2: Amortization Schedule
| Year |
Beginning Balance |
Annual Payment |
Interest |
Principal |
Ending Balance |
| 1 |
$1,000.00 |
$263.80 |
$100.00 |
$163.80 |
$836.20 |
| 2 |
$836.20 |
$263.80 |
$83.62 |
$180.18 |
$656.02 |
| 3 |
$656.02 |
$263.80 |
$65.60 |
$198.20 |
$457.82 |
| 4 |
$457.82 |
$263.80 |
$45.78 |
$218.02 |
$239.80 |
| 5 |
$239.80 |
$263.80 |
$23.98 |
$239.82 |
$0.00 |
Frequently Asked Questions
What is the purpose of an amortization schedule?
An amortization schedule helps borrowers understand how each payment is allocated between interest and principal, providing insight into how the debt decreases over time.
How can an amortization schedule help in financial planning?
By showing the exact amounts going towards interest and principal, an amortization schedule allows borrowers to anticipate their debt repayment timeline and plan their finances accordingly.
Yes, making extra payments towards the principal will alter the schedule, often reducing the total interest paid and shortening the loan term.
Can an amortization schedule be used for types of loans other than mortgages?
Absolutely. Amortization schedules can be created for any type of amortizing loan, including car loans, personal loans, and student loans.
How do interest rates affect the amortization schedule?
Higher interest rates will result in higher interest payments, especially in the earlier stages of the loan, thus altering the distribution between interest and principal reported in the schedule.
Principal
The amount borrowed or the outstanding balance of a loan, excluding interest.
Interest
The cost of borrowing money, typically expressed as an annual percentage of the principal.
Loan Term
The period over which the loan is to be repaid.
Fixed-Rate Mortgage
A type of mortgage where the interest rate remains constant throughout the term of the loan.
Adjustable-Rate Mortgage (ARM)
A mortgage with an interest rate that can change periodically based on the performance of a specific benchmark.
Online Resources
References
- “The Truth About Amortization,” Investopedia.
- “Loan Amortization,” Bankrate.
- “Understanding Amortization Schedules,” The Balance.
Suggested Books for Further Studies
- “Mortgage Management for Dummies” by Eric Tyson
- “Amortization Essentials for CFOs” by Steven M. Bragg
- “The Loan Payment Calculation Handbook” by Thomas Crosby
Real Estate Basics: Amortization Schedule Fundamentals Quiz
### What information is typically included in an amortization schedule?
- [x] Periodic payment amounts, interest, principal, and unpaid loan balance
- [ ] Borrower's credit score
- [ ] Property tax details
- [ ] Mortgage insurance information
> **Explanation:** An amortization schedule typically includes periodic payment amounts, interest, principal, and the unpaid loan balance.
### What happens to the principal component over the life of a typical amortization schedule?
- [x] It increases
- [ ] It decreases
- [ ] It remains the same
- [ ] It depends on loan conditions
> **Explanation:** In a typical amortization schedule, the principal component of each payment increases over time as more of each payment goes toward paying down the principal and less toward interest.
### How does the interest component change over the life of an amortizing loan?
- [ ] It increases
- [x] It decreases
- [ ] It stays constant
- [ ] It fluctuates unpredictably
> **Explanation:** The interest component of each payment decreases over time as the principal balance is paid down and less interest is accrued.
### Which type of loan uses an amortization schedule?
- [x] Mortgages
- [x] Car Loans
- [x] Personal Loans
- [ ] Credit Card Debt
> **Explanation:** Amortization schedules are used for mortgages, car loans, and personal loans but not typically for credit card debt, which is usually a revolving type of credit.
### How does an increase in interest rate impact an amortization schedule?
- [ ] It increases the principal payments
- [x] It increases the interest payments
- [ ] It does not affect the schedule
- [ ] It reduces the term of the loan
> **Explanation:** An increase in the interest rate increases the interest payments initially, which means less of each payment goes toward the principal balance.
### What is the outcome of making additional principal payments?
- [ ] Extended payment term
- [x] Reduced total interest payments
- [ ] Increased loan balance
- [ ] Higher interest rate
> **Explanation:** Making additional principal payments reduces the total interest payments and often shortens the loan term.
### An amortization schedule is least helpful for what type of borrowing?
- [x] Revolving credit accounts
- [ ] Mortgages
- [ ] Auto Loans
- [ ] Personal Loans
> **Explanation:** An amortization schedule is least helpful for revolving credit accounts, such as credit cards, since these do not have a fixed repayment term.
### Over the life of the loan, what happens to the balance on an amortization schedule?
- [x] It decreases
- [ ] It increases
- [ ] It fluctuates
- [ ] It stays the same
> **Explanation:** Over the life of the loan, the balance on an amortization schedule decreases as principal payments reduce the loan balance.
### Why is it important for borrowers to understand the amortization schedule?
- [ ] To adjust the property value
- [ ] To forecast property tax
- [x] To manage financial planning and understand cost over loan term
- [ ] To renegotiate loan terms
> **Explanation:** Understanding the amortization schedule is important for managing financial planning and comprehending the cost implications of the loan over its term.
### What role does the beginning balance play in an amortization schedule?
- [ ] It indicates the total interest owed
- [x] It shows the remaining principal at the start of the period
- [ ] It calculates property tax
- [ ] It defines the monthly payment amount
> **Explanation:** The beginning balance in an amortization schedule shows the remaining principal at the start of each period.
