How loan amortisation works: the decision in numbers
Learn how loan amortisation works, why early instalments contain more interest, how principal falls, and when an extra payment changes the loan term. Use
Amortisation is a changing split, not a separate charge
An amortising loan is repaid through scheduled instalments. Each instalment first covers interest accrued on the outstanding principal; the rest reduces principal. With a fixed rate and fixed payment, the payment may look unchanged while its composition changes every month. Early on, the balance is large, so interest takes a larger share. Later, less interest accrues and more of the same payment reaches principal.
A worked example
Take €200,000 over 25 years at 4% nominal annual interest with monthly compounding. The level payment is about €1,055.67. In month one, interest is €666.67 and principal is €389.00, leaving roughly €199,611. In month two, interest is calculated on that lower balance, so it falls slightly. Around payment 150, the split is approximately €403 interest and €653 principal. The final payments are almost entirely principal.
Over all 300 scheduled payments, the borrower pays about €116,700 in interest if the rate and schedule never change. This total is not obtained by multiplying 4% by 25: interest is repeatedly charged on a declining balance.
Why timing changes the value of an extra payment
An extra €1,000 paid near the beginning removes principal that would otherwise generate interest for many years. The same €1,000 near the end has fewer months left to work. Unless the lender recasts the payment, an extra principal payment generally shortens the term rather than changing the contracted monthly amount. Contracts differ: a lender may reduce the instalment, shorten the term, cap annual overpayments or charge permitted compensation.
Ask how the payment will be applied and obtain a revised schedule. In the EU, mortgage borrowers generally have a right to early repayment, but national implementation and contract terms determine possible conditions and compensation.
Read a schedule correctly
Check the opening balance, interest, principal and closing balance on each row. Interest should equal the periodic rate times the opening balance, subject to the lender's day-count and rounding method. The closing balance should equal opening balance minus principal. Fees and insurance are not principal and may sit outside the schedule.
Variable-rate loans behave differently: a reset changes the future payment, term, or both. Payment holidays and capitalised arrears can increase principal, reversing the usual downward path. Use the extra-payment calculator as a scenario, then reconcile it with the lender's contractual schedule.
Before changing the schedule
Download the latest statement rather than relying on the original loan amount. Record the current principal, nominal rate, remaining instalments, next reset date and any overpayment rule. When testing an extra payment, compare both the new payoff date and total interest; a lower displayed monthly payment alone does not prove a saving. Keep screenshots or exported results with the date and assumptions. Finally, verify that the lender applied an actual overpayment to principal rather than treating it as an advance of future instalments. Those treatments can produce very different interest paths even though the same amount left your bank account.