Loan

The term loan refers to a sort of credit vehicle in which a sum of money is provided to
another party in consideration for future repayment of the value or principal amount. In many
circumstances, the lender also adds interest or finance charges to the principle value, which the
borrower must repay in addition to the principal sum. Loans might be for a specific, one-time
amount or for an open-ended line of credit up to a certain maximum. Loans are available in a
variety of forms, including secured, unsecured, commercial, and personal loans.

Components of a Loan

o Principle: The original sum borrowed.

o Loan Term: The time period over which the borrower must repay the loan.
o Interest Rate: The rate at which the amount owed grows, commonly stated as an
annual percentage rate (APR).
o Loan Payments: The amount of money that must be paid each month or week to satisfy
the loan requirements. An amortization table can be used to calculate this based on the
principal, loan period, and interest rate.

Types of Loans

o Secured vs. Unsecured Loan - Loans are either secured or unsecured. Mortgages and
auto loans are both secured loans since they are backed or secured by collateral. A
credit card is a revolving unsecured loan, whereas a home equity line of credit (HELOC)
is a secured revolving loan. A car loan, on the other hand, is a secured, term loan, and a
signature loan is an unsecured, term loan.
o Revolving vs. Term Loan - Loans are also classified as revolving or term. A revolving loan
is one that can be spent, returned, and spent again, whereas a term loan is one that is
paid off in equal monthly installments over a predetermined length of time.

Amortization Table

A loan amortization schedule is a detailed table of periodic loan payments that shows the
amount of principal and interest that is included in each level payment until the loan is paid off
at the end of its term. The majority of each payment goes toward interest early in the schedule;
later in the schedule, the majority of each payment begins to cover the loan's remaining
principal.

Formulas Used in Amortization Schedules

The following formula is used to determine the monthly principle due on an amortized loan:

o Principal Payment = Total Monthly Payment – [Outstanding Loan Balance x (Interest

Rate / 12 Months)]

If you need to compute your total monthly payment for any reason, use the following formula:
 o Total Monthly Payment = Loan Amount [ i (1+i) ^ n / ((1+i) ^ n) - 1)]

Example

o Consider a loan with a 30-year term, a 4.5% interest rate, and a monthly payment of
$1,266.71. Multiply the loan balance ($250,000) by the monthly interest rate beginning
in month one. Because the periodic interest rate is one-twelfth of 4.5% (or 0.00375), the
equation becomes $250,000 x 0.00375 = $937.50. As a result, the first month's interest
payment is made. Subtract that amount from the periodic payment ($1,266.71 -
$937.50) to get the share of the loan payment allocated to the loan's principle
($329.21).

References

Fontinelle, A. (2022, July 29). What Is an Amortization Schedule? How to Calculate With Formula.
Investopedia. https://www.investopedia.com/terms/a/amortization_schedule.asp#toc-formulas-used-
in-amortization-schedules

Kagan, J. (2021, April 19). Loan. Investopedia. https://www.investopedia.com/terms/l/loan.asp