Loan Amortization is a loan with scheduled periodic payments of both principal and interest. The principal portion of the loan is the actual loan amount itself, while the interest portion of the loan is the amount the debtor is charged by the creditor.
With an amortized loan, the principal of the debt is paid down over the life of the loan, typically through equal payments. Monthly payments for the loan are first applied toward reducing the interest balance and any remaining sum towards the principal balance. So, as the loan is paid off, more money goes towards paying off the principal amount.
An example of loan amortization:
When you buy a car or get a mortgage, the loan can either be fully or partially amortized.
Car loan – If you are approved for a car loan, you are given the option of a balloon payment. With balloon payments, you are able to delay some of the payment of the principal debt. The shorter the remaining term, the larger the increase required in the periodic payments to amortize the loan over the remaining term. So as you get closer to paying off your loan, you may have a balloon payment to settle in a very short space of time.
An amortization schedule is used to show exactly how the payment structure of a loan is, if payments are made on time and in proper amounts. This schedule will illustrate how the debt is eliminated (amortized) over a period of time and how the interest and principal portions are reduced.
