When you take out a loan (like a mortgage or a car loan), you agree to a fixed monthly payment. But have you ever wondered where that money goes? It's not as simple as dividing the loan by the number of months. The magic (and frustration) is all in the **amortization schedule**.
The Two Parts of Every Payment
Your single monthly payment is split into two buckets:
- 1. Principal: This is the *real* money you borrowed. Paying this down is what actually reduces your loan balance.
- 2. Interest: This is the *cost* of borrowing the money. It's the profit the bank makes. Paying this does **not** reduce your loan balance.
The "Front-Loaded" Truth
Here's the part that surprises most people: **loan interest is front-loaded.**
This means in the early years of your loan, the *majority* of your monthly payment goes straight to interest, and only a tiny portion goes to paying down your principal.
This is why it feels like your loan balance doesn't move for the first few years—because it barely is!
As time goes on, the split slowly tips. In the final years of your loan, almost all of your payment goes to principal, and very little goes to interest.
How to See This in Action
The best way to understand this is to see it. Try our Loan Calculator.
Enter a sample mortgage: $300,000 at 5% for 30 years.
You'll see a monthly payment of about $1,610. Now, scroll down to the **Amortization Schedule**:
- Month 1: Your $1,610 payment is split into $1,250 (Interest) and only $360 (Principal).
- Month 2: Your balance is now $299,640. Your interest is $1,248 (slightly less), and your principal is $362 (slightly more).
This tiny, slow shift is amortization in action. It's a powerful concept to understand, and it's the key to making smart financial decisions, like whether paying extra on your principal is worth it.