An amortization calculator is simply a formula which is used to work out the sum due in repayments each month as part of the schedule of repaying a loan or mortgage. The ‘calculator’ itself amounts to little more than a simple mathematical formula, but the concepts behind the raw calculation can be a little trickier to understand.
Amortization, in its simplest terms, is the process of reducing a loan, or sometimes the value of an asset, by an amount paid at regular intervals. The term itself shares a root with the French word for death, mirroring the fact that the loan is ‘killed off’ slowly.
The total amount of every installment of the repayment schedule is the same. However, a schedule will often apply more interest to the regular amount at the beginning of the schedule, and less of the actual amount to be repaid, commonly referred to as the principle.
Despite these variations, the amount of each repayment still remains the same throughout, spreading the burden of the loan over a pre-agreed period of time. This has become a pretty standard way of conducting loan arrangements throughout the capitalist world.
An amortization calculator is a useful device to use before purchasing a loan of any kind, as it usually allows the prospective borrower to see which loans they can actually afford, or to see how a loan can fit into a budget and possible schedule. It can reveal the exact amount of money will be paid in interest and repayment of the principle for each payment, allowing the specifics of a credit agreement to be tweaked until it fits to the customer’s needs and ability to pay.
The actual mathematical formula such a calculator uses is based around the principle being multiplied by a complex calculation of the interest rate, which in turn is being multiplied by itself plus one, to the power of the number of repayments, then divided by the rate plus one to the power of the number of payments minus one. It is much easier to follow the calculation when presented mathematically, but easier still to use a computer programme.
Most of this kind of calculation tool work alongside a programme such as Excel, which allows the repayment formula to be built into complex spreadsheet calculations. Other computer programmes can, of course, be used, but it is advisable to use some form of technology rather than raw calculation in order to ensure that the amounts are correct.
As well as for long-term loans such as mortgages, which can be quite complex, the calculation tool can also be used to help assess more short-term and simpler credit arrangements, such as student loans or finance for a vehicle. The formula is essentially a universal one, though there may be slight variations according to different countries.
An amortization calculator can be a valuable tool for any household considering making new credit arrangements. It is also wise to seek proper, professional advice in order to make a proper judgment and efficient assessment.