LESSON 12:
AMORTIZATION
TERMS TO REMEMBER
AMORTIZATION
is the gradual extinguishment of any amount over a period of
time, that is, extinction of a debt, principal and interest by
means of a sequence of equal periodic payments due at the
end of equal intervals of time
is a financial arrangement whereby a lump – sum obligation
measured at present value is incurred and is paid off or
liquidated by series of equal payments
is the same as the present value of ordinary annuity
AMORTIZATION METHOD
refers to the discharging of a debt by means of a
set of regular or irregular and equal or unequal
payments
NOTE: When this method is used to liquidate an
interest-bearing debt, a series of periodic payments,
usually equal, is made. Each payment pays the
interest on the unpaid balance and also repays a part
of the outstanding principal. As time goes on, the
outstanding principal is gradually reduced and interest
on the unpaid balance decreases.
OUTSTANDING PRINCIPAL (REMAINING
LIABILITY)
is the unpaid balance or amount on a certain
date
is the total amount which the company owes,
which is recorded in the books of the company
is the total principal as well as interest amount of
a debt that has yet to be paid, is of core
importance for any company which has used debt
financing
AMORTIZATION SCHEDULE
is a table that shows how each regular payment is distributed
into interest payment and reductions of principal and it also
shows the outstanding principal at the beginning of each
payment interval
is a table which shows how much is applied to reduce the
principal and how much portion is paid for interest to show the
outstanding principal or remaining liabilities
is a complete table of periodic loan payments, showing the
amount of principal and the amount of interest that comprise
each payment until the loan is paid off at the end of its term
AMORTIZATION of a DEBT: Finding the
Amortization Payment and Value of the Loan (PV)
FORMULAS:
CONSTRUCTING an AMORTIZATION
SCHEDULE
In most mortgages, the amount paid each month in
interest progressively decreases, while
simultaneously the amount owed on the principal
progressively increases, until payments against the
principal are higher than those against interest. The
rate at which the balance decreases is called an
amortization schedule.
An amortization table is a schedule that lists each
monthly payment in a loan as well as how much of each
payment goes to interest and how much to the principal.
Every amortization table contains the same kind of
information.
1. SCHEDULED PAYMENTS: Your required monthly payments are
listed individually by month for the length of the loan.
2. PRINCIPAL REPAYMENT: After you apply the interest charges, the
remainder of your payment goes toward paying off your debt.
3. INTEREST EXPENSES: Out of each scheduled payment, a portion
goes toward interest, which is calculated by multiplying your
remaining loan balance by your monthly interest rate.
NOTE:
1. As to be expected, the interest paid decreases each
payment (since the debt is getting smaller), and thee
payment towards reduction of the obligation increases
correspondingly.
2. The total principal repaid is equal to the original
loan, if incase of more or less P0.05 difference, repeat
the process.
KEY TAKEWAYS...
1. Amortization is the process of spreading out a loan (such as a home
loan or auto loans) into a series of fixed payments. Amortization also refers
to the process of paying off a debt over time in regular installments of
interest and principal sufficient to repay the loan in full by its maturity date.
While each monthly payment remains the same, the payment is made up of
parts that change over time. A portion of each payment goes towards
interest costs (what your lender gets paid for the loan) and reducing your
loan balance (also known as paying the loan principal).
2. Amortization tables can help lender keep a track of what they owe and
when, as well as forecast outstanding balance or interest at any point in the
cycle. Amortization schedules are often seen when dealing with
installment loans that have known payoff debts at the time the loan is taken
out, such as a mortgage or a car loan.
OUTSTANDING PRINCIPAL
(REMAINING LIABILITY) &
CONCLUDING PAYMENT
The outstanding principal balance of a mortgage
is simply the total amount of money it would take to
pay off the loan in full. How much this amount is
depends on how much was originally borrowed,
how much has been paid down, and what the
annual interest rate is.
FORMULAS:
PROSPECTIVE METHOD is
a method that uses the future
history of the debt. With this
method, the remaining liability
or outstanding principal is
equivalent to the
present value of all the
payments which remain to be
made.
FORMULAS:
RETROSPECTIVE METHOD is a
method that uses the past history of
the loan. With this method, the
outstanding principal is equivalent
to the difference between the
accumulated value of the loan and
the accumulated value of the past
payments.
