Definition: The amortization schedule refers to the allocation of loan payments over interest and principal for a determined period of time until a loan is paid off.
What Does Amortization Schedule Mean?
What is the definition of amortization schedule? This schedule is a very common way to break down the loan amount in the interest and the principal. Most people think that by making a minimum payment for their loan, they lower the principal amount. This depends on the duration of the loan.
For example, in the beginning of the term for a long-term loan, most of the payment goes towards lowering the interest. As the term progresses, a greater percentage of the payment goes to the principal and a lower percentage goes to the interest. So, people who want to pay off their loan fast, make extra payments in the beginning of the term.
Let’s look at an example.
Example
John wants to buy a new car. The cost of the car is $21,000, but John cannot afford to buy the car in cash. So, he needs to apply for a loan. The loan officer at the bank offers him an amortization schedule for the loan repayment. The deal includes the repayment of $21,000 in 11 years at an annual interest rate of 7%. This generates a monthly payment of $2,800, out of which $1,470 goes towards interest and $1,330 towards principal.
So, here is the loan schedule with regular payments as well as the allocation of payments on interest and principal:
If John makes an extra payment of $500 in year 2, $1,000 in year 5, and $800 in year 7, then he will be able to repay the loan in 10 years. Notice that in years 2, 5 and 7 that he makes the extra payments, the allocation of payment towards the interest is less than the allocation of payment towards the principal.
Summary Definition
Define Amortization Schedules: Amortization schedule means a table showing a detailed listing of a loan’s balance as interest and principal payments are made.
