Your loan payment is the same every month, but what it buys changes dramatically over time. In month one, most of your payment covers interest. In month 60, most of it reduces what you actually owe. This isn’t a quirk — it’s how amortising loans are designed to work, and understanding it changes how you think about extra payments and early payoff.
Quick Answer
Each monthly payment covers that month’s interest first (calculated on the outstanding balance), with the remainder reducing the principal. Because interest is highest when the balance is highest, early payments are mostly interest. As the balance falls, each payment buys more principal reduction. This is amortisation. On a $20,000 loan at 9% for 5 years, you pay $415/month — but the split between interest and principal shifts from roughly 60/40 in month one to 99/1 in the final month.
The Monthly Interest Formula
Monthly Interest = Outstanding Balance × (Annual Rate ÷ 12)
Principal Payment = Monthly Payment − Monthly Interest
New Balance = Outstanding Balance − Principal Payment
This calculation repeats every month. The monthly payment stays fixed; the split changes.
Example: $20,000 loan at 9% APR, 60-month term
Monthly payment (from standard amortisation formula): $415
| Month | Balance | Interest | Principal | Remaining |
|---|---|---|---|---|
| 1 | $20,000 | $150 | $265 | $19,735 |
| 2 | $19,735 | $148 | $267 | $19,468 |
| 12 | $17,243 | $129 | $286 | $16,957 |
| 24 | $13,870 | $104 | $311 | $13,559 |
| 36 | $9,988 | $75 | $340 | $9,648 |
| 48 | $5,562 | $42 | $373 | $5,189 |
| 60 | $413 | $3 | $412 | $0 |
Notice: month one interest is $150. Month 60 interest is $3. Same payment ($415), completely different split.
Why Amortisation Front-Loads Interest
The monthly payment is calculated so the loan reaches exactly zero at the end of the term. To do this at a fixed payment, the calculation works backwards from the required balance trajectory. Early on, the balance is large — so interest charges are large, leaving less room in the payment for principal. As principal falls, so does interest, freeing up more of each payment for further principal reduction.
This is not the lender front-loading fees. It’s just arithmetic: interest on $20,000 at 9% is $150/month. Interest on $5,000 is $37.50/month. The payment amount stays constant; the interest calculation changes with the balance.
The total interest over 60 months: $4,900. That’s what amortisation costs you on a $20,000 loan at 9%.
How Extra Payments Change the Math
Extra payments go entirely to principal reduction. Because interest in all future months is calculated on the remaining balance, reducing the balance today saves interest in every subsequent month.
$20,000 at 9% for 60 months, adding $100/month extra:
| Standard | +$100/month | |
|---|---|---|
| Monthly payment | $415 | $515 |
| Payoff time | 60 months | 53 months |
| Total interest | $4,900 | $4,228 |
| Interest saved | — | $672 |
| Time saved | — | 7 months |
The $100/month extra saves $672 in interest — more than 6 months of the extra $100. The interest savings compound: each dollar of extra principal eliminates all future interest on that dollar.
The Amortisation Payment Formula
If you want to compute your payment yourself:
P = L × [r(1+r)^n] / [(1+r)^n − 1]
Where:
P = monthly payment
L = loan amount (principal)
r = monthly interest rate (APR ÷ 12)
n = total number of payments (years × 12)
For $20,000 at 9% for 5 years:
- r = 0.09 ÷ 12 = 0.0075
- n = 60
- P = 20,000 × [0.0075 × (1.0075)^60] / [(1.0075)^60 − 1]
- P = 20,000 × [0.0075 × 1.5657] / [1.5657 − 1]
- P = 20,000 × 0.01174 / 0.5657 = $415
You don’t need to do this by hand — the Loan Calculator does it instantly for any combination of amount, rate, and term. But knowing the formula explains why longer terms have lower payments (n is larger, so the denominator grows) and why higher rates have higher payments (r is larger throughout).
What This Means in Practice
For borrowers considering extra payments: the earlier you make them, the more interest you save. An extra $500 in month one saves more than $500 in month 48, because it reduces the balance for more of the remaining term.
For refinancing decisions: if you’ve been paying for several years, most of your remaining payments are mostly principal — you’ve already paid most of the interest. Refinancing at a lower rate at this stage has less impact than refinancing early in the loan.
For comparing loan terms: a 3-year loan vs a 5-year loan on the same balance at the same rate has identical interest math on each dollar — but the 3-year loan has fewer months of interest accumulation. The shorter term costs more per month but significantly less in total.
Use the Loan Calculator to see the full amortisation schedule for your specific loan — amount, rate, and term — and model how extra payments change the total cost.