Want to understand exactly how your payments are broken down and calculated when you take on a home loan or mortgage?
Then you need to understand the concept of loan amortisation, which is how your payments go toward reducing the principal and interest portions of your home loan or mortgage. Understanding the breakdown of your payments gives you a clear picture of what you will be paying in each repayment cycle, which allows you to plan your finances, choose to make additional repayments or even refinance.
Read our Q&A explainer to understand how amortisation works, so you know what to expect when you take on a mortgage. This also covers how an amortisation schedule works, which is how your periodic payments are allocated over the term of your home loan.
Before we look at the concept of amortisation, and how it applies to a home loan, it’s crucial you understand how a mortgage is structured.
There are two parts to a mortgage:
When you apply for a home loan you have the option of either paying just the interest - known as an interest only home loan; or the principal and interest. The latter is when part of your monthly repayments pay down a portion of the loan (called the principal) and the interest charged on the loan. You will generally pay off your loan quicker with principal and interest repayments.
Now we understand how a home loan is structured, let's look at the concept of amortisation.
The concept of amortisation is actually simple, even though the term is not widely used. It actually derives from the Latin admortire which means ‘to kill’, and in this context describes the process of ‘killing’ or paying off your debt (home loan) over time.
In the context of a home loan, amortisation is the process of repaying a loan in regular, periodic instalments. Your repayment schedule - either made weekly, fortnightly or monthly - go toward paying off the interest and principal over the life of your home loan.
In the beginning the majority of your repayments go toward paying off the interest, but over time this shifts more to reducing the principal. Despite the shift in payments, your regular repayments remain consistent throughout the loan term, until the loan (debt) is repaid or cleared. This process is also referred to as straight-line amortisation.
How much of your total payments go to these two elements is determined by something called an amortisation schedule. This is the method many banks, lenders and financial institutions use to calculate your loan repayment schedules.
Let’s look at amortisation schedules in more detail.
In the context of a home loan or mortgage, an amortisation schedule is a breakdown of all your monthly repayments over the term of the loan. It will detail how much goes toward your principal balance and interest respectively. This will also tell you exactly how the interest on your loan is distributed equally over all monthly payments until the debt expires.
The easiest way of calculating an amortisation schedule is to use an amortisation calculator. You can also make use of our Mortgage Repayment Calculator, which also outputs a graph to display the inverse relationship your payments have on interest and principal payments over the life of the loan.
Example: An amortisation schedule is typically detailed in spreadsheet form with rows corresponding to your repayment schedule (weekly, fortnightly or monthly); with a series of columns detailing the payment period, payment amount, principal payment, and interest payment.
The practical information in an amortisation schedule can help you make informed, strategic decisions - which could save you money.
In the context of property investing, understanding amortisation gives you insights into the future projected costs of your mortgage over time. An amortisation schedule tells you exactly how much is going toward paying off the interest versus the principal, at any given point in the future.
As you pay more of the principal balance off, you could make the decision to make additional repayments. Regular additional repayments can help cut years off the term of your home loan, and help you pay off your mortgage faster. Knowing how much of your mortgage you have paid off can be a valuable asset, as the home equity you have built up could be used to finance renovations, or even to finance the purchase of a second property.
An amortisation schedule could also help you decide on the best home loan if you are refinancing, by comparing the potential savings a new mortgage (with a lower interest rate) could give you.
You can use our mortgage repayment calculator tool to give an estimate of:
You can also estimate what the impact of making extra repayments toward your home loan will have on your mortgage.
Note: Our calculator assumes that you are making principal & interest repayments towards your loan.
Have any questions about amortisation or our home loans? We’re happy to help, and our local team are available to chat at a time that suits your schedule.