What is principal and interest?

Written by Anytime EstimateFebruary 24th, 20222 minute read

Simply put, the principal is the amount of money you borrowed when you first took out your loan. The interest that a lender charges is the cost of borrowing money. The total of the two components of your loan payment is equal to the sum of the two.

The payment is calculated using the principal amount, the loan period (i.e. 5, 10, 15, 20, 25, and 30-years), and the interest rate.

Utilize the interest and principal calculator to get a better understanding of the connection between the principal and interest. By making a monthly overpayment, you may significantly decrease the total interest paid to the lender.

Paying down the principal saves you money.

Principal and Interest: Frequently Asked Questions

Q. What is the difference between principal and interest?
A. In all cases, the interest on a loan is less than the principal.

Q. Is it allowed to pay down the principal prior to the accrual of interest?
A. Generally, excess payments on loans may be used to pay down the principal loan balance. Making extra principal payments lowers the interest owed on the loan.

Q. Are additional payments made automatically to the principal?
A. Typically, additional payments are made to the principal. You should indicate on your check that any excess funds will be applied to your principal. At all times, keep a copy of the canceled check or statement. Banks and servicers are imperfect and can make errors.

Q. Is it true that making principal payments reduces the interest rate?
A. As the principal balance of the loan decreases, the amount of interest paid decreases. The interest rate remains the same.

Q. Is it more advantageous to pay interest or principal?
A. Interest is based on the principal balance, thus increasing principal payments lowers the amount of interest owed. Even a little monthly over-payment will result in significant interest savings.

Q. What portion of a mortgage is principal?
A. The term "principal" refers to the amount borrowed when you obtained your home loan.

Q. What if I increase my mortgage payment by one each year?
A. The calculator above calculates a monthly payment of $955 for a $200,000 loan with a 4% interest rate.

By paying an additional $955 each month, you would save $97,327 in interest and will pay off your mortgage 19 years and 2 months sooner.

Q. What happens if I make a large principal payment on my mortgage?
A. If you make any over-payments on your mortgage, your monthly loan payment will stay the same. However, an over-payment will decrease the total amount of interest due in the future, allowing the loan to be paid off sooner.

Q. Why is it that interest takes precedence over principal?
A. During the first half of the loan amortization period, the interest component of the payment is often greater than the principal component.

In the second part of the loan, the principal will exceed the interest payment.
According to the principal and interest calculation, interest is paid first.