Term of The Day: Amortization
Term of The Day: Amortization
Amortization is the process of repaying debt in regular intervals over a period of time.
PropTiger Explains Amortization
When home buyers pay off the principal amount and the interest in monthly installments over many years, the process is known as “amortization”. The word “amortization” is also used to denote the process of spreading out capital expenses on intangible assets over a period of time for accounting purposes and to cut down on tax expenses. The word “depreciation”, however, is used in the context of tangible assets. The word “amortize” means “to bring to death”.
A mortgage loan is considered an amortizing loan if the loan principal decreases over the tenure period of the loan. In amortizing home loans, every month, a part of the equated monthly installment reduces the loan principal. The rest goes toward interest payment. When you pay off an amortizing loan, the monthly installments are determined by an amortizing schedule. The ratio of interest payment and the principal amount too is determined by the amortizing schedule.
If the monthly payments will fully pay off the loan at term, it is considered a fully amortizing payment. A fully amortizing payment is calculated at beginning and the monthly installments do not change during the tenure period of the loan. In negative amortization, the monthly payments are less than the interest payment that is due. Under negative amortization, the outstanding balance of the loan rises.
In India, nearly 95% of the home loans are floating interest rate loans and not fixed interest loans. So, when the interest rates fall, often the banks reduce the tenure period, and not the equated monthly installments. So, the amortization schedule is adjusted accordingly.
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