What It Means
Amortization is the process of spreading loan payments over a set period so that both the principal (original loan amount) and interest are paid off by the end of the term. In an amortization schedule, early payments are heavily weighted toward interest, with a larger portion going to principal as the loan matures. For example, in the first year of a 30-year mortgage, roughly 70-80% of each payment might go to interest. By year 25, the ratio flips with most of the payment reducing principal. Understanding amortization helps you see how much of each payment actually reduces your debt and why making extra principal payments early in the loan term can save significant interest over time.
Frequently Asked Questions
Why do early loan payments go mostly toward interest?
Because interest is calculated on the remaining balance. Early in the loan, the balance is highest, so more interest accrues. As you pay down principal, less interest accrues and more of each payment reduces the balance.
How do extra payments affect amortization?
Extra payments toward principal reduce the balance faster, which reduces total interest paid and can shorten the loan term significantly. Even one extra payment per year on a 30-year mortgage can save years of payments.