CandleFocus Glossary Editor
Amortized loans are perhaps the most common way of financing large purchases today, from buying a car to investing in a business. This type of loan, in which the borrower pays back an amount over a period of time, is a type of installment loan. Amortized loans may offer borrowers a greater sense of security than other types of financing, such as interest-only loans. Amortization loans are common in mortgages, auto loans and some credit cards.
The term “amortization” comes from the French “amortir”, which meant to pay off a debt. In essence, each amortization payment that is made pays off some of the principal and some of the interest. As the loan balance is reduced, the interest payments become smaller in size and the principal payments become larger.
The most common amortized loan is a fixed-rate, fixed-term loan. This type of loan features an interest rate that, while subject to change, usually remains constant throughout the entire loan period and remains at the same rate. However, the amount of the monthly payment is determined by the remaining length of the loan. With this type of loan, the borrower has written instructions of how much his or her payment must be made and when it must be paid. For example, if a borrower is repaying a car loan, he or she may have to pay the same $500 per month for 60 months to pay off the loan entirely.
Typically, each amortization payment includes a portion that covers the interest and one that covers the unpaid principal. This makes it easier for the borrower to budget and may help protect them from sudden increases in interest payments. In addition, amortized loans often come with special features, such as penalties for prepayment.
Overall, amortized loans can be beneficial to borrowers who want to pay off their debt in reasonable amounts. Although these types of loans can help provide stability for borrowers, it's important for them to be familiar with all of the associated risks, such as interest rate changes, before committing to an amortized loan. Understanding the specifics of amortized loans allows borrowers to make the most informed decision possible.
The term “amortization” comes from the French “amortir”, which meant to pay off a debt. In essence, each amortization payment that is made pays off some of the principal and some of the interest. As the loan balance is reduced, the interest payments become smaller in size and the principal payments become larger.
The most common amortized loan is a fixed-rate, fixed-term loan. This type of loan features an interest rate that, while subject to change, usually remains constant throughout the entire loan period and remains at the same rate. However, the amount of the monthly payment is determined by the remaining length of the loan. With this type of loan, the borrower has written instructions of how much his or her payment must be made and when it must be paid. For example, if a borrower is repaying a car loan, he or she may have to pay the same $500 per month for 60 months to pay off the loan entirely.
Typically, each amortization payment includes a portion that covers the interest and one that covers the unpaid principal. This makes it easier for the borrower to budget and may help protect them from sudden increases in interest payments. In addition, amortized loans often come with special features, such as penalties for prepayment.
Overall, amortized loans can be beneficial to borrowers who want to pay off their debt in reasonable amounts. Although these types of loans can help provide stability for borrowers, it's important for them to be familiar with all of the associated risks, such as interest rate changes, before committing to an amortized loan. Understanding the specifics of amortized loans allows borrowers to make the most informed decision possible.