How Principal & Interest Actually Work in Loan Payments

We're gonna take a look at

how principle and interest is applied in the amortization of a loan as payments are made over time. Amortization tables and

now of course calculators and computers give us the exact amount of how much a payment needs

to be to cover the interest and to pay the loan off at a steady rate so that the loan is fully paid of to zero on the very last payment. Each payment contains both

principle and the interest that has accrued over that period. Let's take a look at an example. Let's say we have a $100,000 loan at 6% amortized over 30 years. Our payment amount is going to be 599.55 each month. 599 is our payment amount all the way to the life of the loan. Contained within that

$599 is both the interest that accrued that month and

also the amount of principle it's going to take to pay down the loan at the steady rate that we've determined. Let's take a look at how

that payment is broken down with each payment. With the first payment, when our balance on the loan is 100,000. 6% interest per year equals

half a percent per month. So each month, we are paying

one half percent interest on the current balance. So on the very first payment that half percent interest is $500. Which means that the

remainder of the payment, 99.55 goes to our principle. Since $99.55 was paid

toward the principle, then when the second payment

is due the new balance on the loan is $99,900.45. So with the second payment,

1/2% or 6% annually, 1/2% per month is due on the

new balance of $99,900.45. Which means that half a percent

of that would be $499.50. As we can see, the amount of

interest with each payment that's being charged

on loan is going down. And since the remainder of the payment is applied to principle, then on the second payment, $100.05 is applied to principle. Thereby reducing the unpaid

principle balance again. So that on the third payment, our new balance is $99,800.40. Half a percent on 99,800.40 is $499 even. Which means that $100.54 would

be paid towards principle and so on and so forth. On our last payment or 360th payment, our balance is 596.57 of that $2.98 are interest and then 596.57 is our final principle payment that pays the loan down to zero. This has been a quick overview

of how principle and interest are applied in the

amortization of payments. Thank you for watching.