What are Amortized Loans? should you opt for them?

We all have heard of assets depreciating in value. But can liabilities depreciate too? Here is a thorough examination of amortization and its types.
 

If you own a car, you must know that its value depreciates over time. Amortization is the concept of reducing the value of an intangible asset with time. An intangible asset could be a website or a patent registered in your name. Essentially, this is an asset that doesn't exist in a physical state.

However, Amortization also applies to intangible assets. It applies to loans and their repayment, helping borrowers repay their loans by making systematic monthly payments.

Amortization meaning: what is it about?

It is common knowledge that an asset's value reduces over time. Just as the value of a tangible asset depreciates over time, the value of an intangible asset amortizes over time. It includes assets such as proprietary software, trademarks, copyrights, investments, and loans.

Amortised Loans
 

The application of Amortization isn't limited only to intangible assets. Banks employ Amortization, too, while lending loans to their customers. In lending, Amortization refers to spreading out the repayment of a loan over time. A fixed chunk of your fixed equated monthly instalment (EMI) pays off the monthly interest in an amortized loan's initial repayment stage, and the remaining pay off your principal amount.

As time passes, towards the final stage of your loan repayment schedule, the EMI pays off your principal amount, and the monthly interest repayment keeps declining. Such loans are generally called amortised loans.

Amortization schedule
 

Amortised loans use an Amortization schedule to help you repay your loan. It is a table of your monthly loan payments that shows the amount contributed to repaying monthly interest, principal amount, etc.

An Amortization schedule is best understood with an example. Let us assume that you availed of a loan amounting to ₹12 lakh for an interest rate of 12% and a time of 60 months. An online EMI calculator can help you compute the EMI, which comes to around ₹ 26,693. Here’s the amortization schedule for the first five months:

One inference that we can make from this table is that the contribution towards interest keeps on declining with time, while the contribution towards the principal keeps increasing. In this example, the closing loan balance would approach the ₹ 0 mark towards the final stages of the repayment period, as the loan will have been repaid in full.

The benefits of an amortised loan
 

As a borrower, you can benefit a lot from an amortised loan. The Amortization schedule can help you track your payments and the interest owed. In addition, it can help you adjust the way you want to go about repaying the loan. If you'd like to increase the amount owed to the bank in an instalment to repay the loan faster, an amortised loan allows you to do that.

In the case of home loans, an amortised schedule helps you build equity over time by paying the loan's principal and interest at the same time.

If you are looking to take a loan, IDFC FIRST Bank allows you to calculate your EMI based on the principal amount and the interest via its highly accurate EMI calculator.

Disclaimer

The contents of this article/infographic/picture/video are meant solely for information purposes. The contents are generic in nature and for informational purposes only. It is not a substitute for specific advice in your own circumstances. The information is subject to updation, completion, revision, verification and amendment and the same may change materially. The information is not intended for distribution or use by any person in any jurisdiction where such distribution or use would be contrary to law or regulation or would subject IDFC FIRST Bank or its affiliates to any licensing or registration requirements. IDFC FIRST Bank shall not be responsible for any direct/indirect loss or liability incurred by the reader for taking any financial decisions based on the contents and information mentioned. Please consult your financial advisor before making any financial decision.