What is Amortization?
The process of paying off a loan through scheduled payments split between interest and principal.
An amortization schedule shows, for each payment, how much goes to interest versus principal and the remaining balance. Early payments are interest-heavy; the principal portion grows over time.
Example
On a 20-year loan, after 10 years you've often repaid less than 40% of the principal.
How an amortization schedule works
Amortization is the process of paying off a loan through equal instalments over its term. Each payment covers the interest accrued on the current outstanding balance plus a slice of principal. Because the balance is largest at the start, early payments are mostly interest; as the balance falls, the interest portion shrinks and the principal portion grows, until the final payment clears the loan.
Why early payments barely move the balance
On a typical 20–30 year loan, the first few years' payments are dominated by interest, so the principal falls slowly at first. That is why prepaying principal early — or choosing a shorter term — has an outsized effect on the total interest you pay over the life of the loan.
A shorter loan, worked out
Compare a $300,000 loan at 6% over 30 years against the same loan over 15 years. Over 30 years the payment is about $1,799/month and total interest over the life of the loan is roughly $347,500. Over 15 years the payment rises to about $2,532/month, but total interest falls to roughly $155,700 — less than half. The schedule amortizes faster because more of each payment attacks principal from month one, so the "interest-heavy early years" effect described above is much shorter-lived on a 15-year schedule than on a 30-year one.
Negative amortization: when the balance grows instead of shrinks
Amortization assumes each payment covers at least the interest due, so the balance falls over time. Some loan structures break that assumption: if a scheduled payment is smaller than the interest accruing, the shortfall is added to the principal instead — the balance goes up, not down. This "negative amortization" can appear in certain adjustable-rate mortgages with a low introductory payment, some deferred-interest promotional financing, and income-driven student loan repayment plans where the payment is based on income rather than the interest owed.
Amortization vs. depreciation, and a tax-code sense of the word
Outside loans, accountants and tax authorities use "amortization" for spreading the cost of an intangible asset over time — the cost equivalent of depreciation for a physical asset. The IRS, for instance, lets many acquired intangibles ("section 197 intangibles") be written off over a fixed multi-year schedule, and separately allows certain other created intangibles to be amortized straight-line over 15 years. It's worth knowing this second meaning exists so you don't confuse a business's tax amortization schedule with a loan's repayment schedule — the math and the purpose are different, even though the word is the same. A loan's own repayment schedule is closely tied to its EMI: the EMI is the fixed payment, and amortization is the process that determines how each EMI splits between interest and principal.
FAQ
Is "amortization" always about loans?
No. In accounting and tax, amortization also means spreading the cost of an intangible asset (like a patent, trademark or business start-up cost) over its useful life, similar to how depreciation works for physical assets. The IRS, for example, lets many acquired intangibles ("section 197 intangibles") be written off over a fixed schedule. It's the same underlying idea — spreading a cost over time — but a different context from a loan repayment schedule.
What is negative amortization?
Negative amortization happens when a payment is smaller than the interest accruing that period, so the unpaid interest is added to the principal instead of reducing it — the balance grows rather than shrinks. It shows up on some deferred-payment loans, certain adjustable-rate mortgages with a low introductory payment, and income-driven student loan plans. It's the opposite of normal amortization, where every payment reduces the balance.
Sources
- IRS Publication 946, How to Depreciate Property (accessed 26 September 2026)