Loan Calculator

How Loan Payments Are Calculated

The standard loan payment formula calculates the fixed monthly payment required to fully amortize a loan over a specified term. The formula is: M = P × [r(1+r)ⁿ] / [(1+r)ⁿ - 1], where M is the monthly payment, P is the principal (loan amount), r is the monthly interest rate (annual rate / 12 / 100), and n is the total number of payments.

In the early months of a loan, most of each payment goes toward interest. As the loan matures, a larger portion of each payment is applied to the principal. This is visualized in the amortization schedule, which shows the breakdown of principal and interest for each payment. Understanding this breakdown helps borrowers see the true cost of financing and the impact of making extra payments.

Fixed Rate vs Variable Rate Loans

Fixed rate loans maintain the same interest rate throughout the life of the loan. This means your monthly payment remains constant, making budgeting easier. Fixed rate loans are ideal when interest rates are low or expected to rise. Common examples include 30-year and 15-year fixed mortgages and most auto loans.

Variable rate (or adjustable rate) loans have interest rates that can change periodically based on market conditions. These loans often start with a lower rate than fixed loans but carry the risk of higher payments if rates increase. Variable rates are typically tied to a benchmark index such as the prime rate or LIBOR. Borrowers considering variable rate loans should ensure they can afford the maximum potential payment before committing.