NGPF Activity

Types of Credit

ANALYZE: Understanding Amortization [Answer Key]

20 min

Janet just graduated college and wants one last big adventure before work starts. A 6-week trip to South America
sounds perfect, but she needs to take a loan to pay for it. Her bank offers:

● Loan Amount: $3,500

● Annual Interest Rate: 24%

● Loan Term: 2 years

Part I: What Will This Trip Really Cost Janet?

Open the amortization calculator and enter the loan amount, interest rate and loan term, then click Calculate.

1. What is Janet’s monthly payment?

$185.05

2. In Month 1, what portion of her payment goes towards principal and interest?
Principal: $115.05
Interest: $70.00

3. Look at Janet’s payment in Month 2.

a. How does the breakdown compare with Month 1?
Interest is slightly less, and principal is more by the same amount.

b. Explain why this happened.

Paying down principal in Month 1 lowers the balance, reducing interest owed and allowing more
of the payment to go toward principal.

4. By the time Janet pays off her entire loan,

a. How much interest will she have paid?
$941.17

b. How much will the trip have cost her in total?

$4441.17
Part II: Janet Explore Her Options
5. Janet received a bonus and can afford to pay extra for a month!
● Click Show Calculator
● Add a One-Time Extra Payment of $100 to Month 11
● Click Calculate

a. How will one larger payment affect Janet’s amortization schedule?

She will pay about $29 less in interest overall, but it will still take 24 months to pay off.

6. This one time payment has Janet curious. If she’d been paying an extra $100 EVERY month, what would
the impact be?
● Click Show Calculator
● Remove the one-time extra payment
● Add $100 to Monthly Extra Payment
● Click Calculate

a. What would be the impact on Janet’s total interest paid?

Janet now pays $556.80, which is $384.37 LESS than her original interest payment.

b. How would paying extra every month affect the number of months needed to pay off the loan?
It now takes 15 months instead of 24.

7. Janet wants to see what happens if she extends her loan term.
a. Click Show Calculator
b. Remove extra payments
c. Change Loan Term to 4 years
d. Click Calculate

a. What is Janet’s new monthly payment?

$114.11

b. What’s the impact on the total interest she’ll pay?

Janet now pays $1977.11, which is $1035.94 MORE than her original interest payment.

c. In the first month, how does the interest portion of her payment compare to the principal portion?
Janet is paying MORE in interest ($70) than she is in principal ($44.11).

d. How does your observation in part c affect the total interest Janet will pay over the life of the
loan?
● High interest payments mean smaller principal payments, so the balance decreases
slowly.
● A higher balance keeps monthly interest high, leading to more total interest and a longer
repayment time.

8. What would be the benefit of taking a longer time to pay back your loan?
If you can’t afford large monthly payments, a longer loan term helps by lowering them. It’s better to
make smaller, on-time payments than miss bigger ones.

Part III: Reflection

9. What advice would you give Janet as she decides how to structure her loan for the trip?
[Answers may vary] Possible answers could include:
● Should she take the trip at all if it requires a personal loan?
● Could she plan a cheaper trip instead?
● A shorter loan term costs less overall. Aim for the largest monthly payment she can manage.
● Use any extra cash to pay down the loan; even small amounts help reduce the principal.
● 24% is a very high interest rate. Can she shop around for a better one?

10. How would you explain loan payments to a friend who’s never heard of amortization?
● Amortization shows your fixed monthly loan payments split between interest and principal.
● Each month, interest is paid first, then the rest goes to principal.
● As the loan balance shrinks, interest decreases and more of your monthly payment goes toward
principal.
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