Amortization is the schedule by which a loan is paid off. Understanding it explains why the balance falls so slowly at first, and why extra payments early on are so powerful.
The basic idea
On a fixed-rate loan, every payment is the same size. Each payment first covers the interest that built up during the month, and whatever is left over reduces the principal. Because interest is charged on the remaining balance, interest is highest at the start.
Worked example
A $300,000 loan at 6.5% for 30 years has a payment of $1,896.20.
| Month | Interest | Principal | Balance after |
|---|---|---|---|
| 1 | $1,625.00 | $271.20 | $299,728.80 |
| 2 | $1,623.53 | $272.67 | $299,456.13 |
In month one, interest is $300,000 × 6.5% ÷ 12 = $1,625.00, so only $271.20 of the payment reduces the balance. In month two, the interest is slightly lower because the balance is a little lower, so slightly more goes to principal. This shift continues until the final payments are almost all principal. Over the full 30 years, you pay about $382,600 in interest.
Why extra payments help so much
Extra money paid toward principal cuts the balance immediately, so all future interest is calculated on a smaller amount. Adding $200 a month to the loan above pays it off in 23 years and 1 month instead of 30 years, about 6 years and 11 months sooner, and saves roughly $103,400 in interest.
| Extra per month | Payoff time | Total interest |
|---|---|---|
| $0 | 30 years | $382,633 |
| $100 | 26 years | $321,639 |
| $200 | 23 years 1 month | $279,185 |
Other ways to pay down faster
- Make one extra payment a year from a bonus or tax refund.
- Pay half the payment every two weeks. There are 26 half-payments in a year, which equals 13 full payments instead of 12. Check that your lender applies each payment promptly and does not charge a fee for the arrangement.
- Round up the payment to the next $50 or $100.
Check before you prepay
- Confirm the loan has no prepayment penalty.
- Ask the lender to apply the extra amount to principal.
- Compare with other goals. If you carry credit card debt at a much higher rate, paying that first usually saves more.
Enter your own numbers in the amortization calculator to see your full schedule. This article is general education, not financial advice.