How Mortgage Amortization Works

Every mortgage payment does two jobs. Part of it pays the interest that accrued on the outstanding balance since the last payment; whatever remains reduces the balance itself.

Interest is charged on the balance, so it is at its largest at the beginning and falls as the balance does. Because the payment is fixed, the shrinking interest portion leaves a growing principal portion - slowly at first, then quickly.

On a thirty-year loan at typical rates, roughly three quarters of the first payment is interest. After five years - a sixth of the term - only a small single-digit percentage of the original principal has been repaid.

This is not a fee structure or a penalty. It is arithmetic: interest on a balance that has barely moved is almost as large as it was in month one, so there is little left over to reduce it.

The month in which principal first exceeds interest depends on the rate and the term rather than on the loan size. Higher rates push it later; shorter terms pull it much earlier.

On a fifteen-year loan the crossover arrives within the first few years. On a thirty-year loan at a high rate it can be past the halfway mark - which is the clearest illustration of what a term choice actually costs.

An extra amount applied to principal removes itself from the balance and, with it, every future month of interest that balance would have generated. That compounding is why a modest overpayment in year two can remove several times its own value.

The same payment made in the final year removes almost nothing, because there is barely any remaining interest for it to prevent. The value of an overpayment is entirely a function of how early it is made.

On most loans the instalment is fixed by the note and does not change when extra principal is paid. The loan simply ends sooner.

A borrower who wants the required payment reduced instead needs a recast - a recalculation of the payment over the same remaining term - or a refinance. Both are separate transactions with their own costs and their own conditions.

An amortization schedule assumes every payment was made on time, in full, with no extra principal and no fees added. Real balances diverge from it for exactly those reasons.

Where a schedule and a statement disagree, the statement is authoritative. The schedule is a model, and the gap between the two is usually the history of what actually happened to the loan.