Before we dive deep into what is an example of amortization, let us first understand what amorization is. Amortization is an accounting technique where interest and principal pay off debt or loans over a scheduled period. The amortization schedule shows how interest takes up a massive proportion of loan prepayment.
As time proceeds, the amount declines as the interest paid varies from one month to another while the principal is paid last. Amortization can also be used to value and charge the cost of an asset it will use.
Assets, in this case, are intangible assets such as copyrights, patents, trademarks, etc. since it calculates the dropping of the value of these assets over time, it works similar to the depreciation of fixed assets.
How Amortization Works
To understand best how amortization works, one will need an amortization schedule. This schedule lists how much interest is scheduled to be paid every month. It contains:
Scheduled payments; are the amount required to be paid over a scheduled period for the length of the loan. It includes both the principal and the interest.
Interest to be paid; a proportion of the loan payment goes towards the interest. Interest is calculated by multiplying the interest rate by the month’s remaining loan balance. It, therefore, means that the interest paid varies from one month to another, depending on the loan balance.
Principal; once all the interest is paid off, the remainder of the loan is known as the principle. It is paid monthly together with interest, reducing as time proceeds.
What Is an Example of Amortization Schedule?
The table below shows an example of an amortization schedule. It is a $10,000,000 loan, charging a 12% interest in 6 years. The table will show the amortization schedule for the first five years.
Examples of Amortization
1. Auto loans
These are short-term loans taken in the acquisition of cars. They are fully amortized with fixed interest rates and fixed monthly payments. They are created to be short terms because cars will depreciate, and the longer you stretch the loan, the higher you will pay, probably higher than the car value.
2. Mortgage loans
They are usually long-term loans ranging from 15 to 30 years. They are fully amortized loans with fixed interest rates throughout the loan payment.
3. Personal loans
The majority of these loans are fully amortized with fixed interest rates. One applies for them at banks or credit unions and is often short-term loans.
- Advantages and Disadvantages of Amortization
- Non-Amortizing Loans
- Amortization vs Depreciation and Types of Amortization
1. Saibeni, A. A. (2018). Mortgage Amortization Revisited: An Alternative Methodology. The CPA Journal, 88(11), 54-59.