An Intro to Amortization Tables

Don’t you want to understand how to make an amortization table? There are online calculators that will show you but wouldn’t it be better to actually understand what the hell is going on, and to make them more customizable? The more you know the more you control, and the more control you have the more power you possess.

I’m not going to explain every term here but I’m going to bold some terms that you should look up if you’re not super certain of what they are. First of all, what is an amortization table? An amortization table is a table showing a payment schedule for a loan that one has taken out. It shows how much principal and interest are getting paid with each payment. That is to say how much of the actual loan is being paid back (principal) and then how much extra one is paying for the that original right to borrow the money (interest).

Let’s say Bansir is a camel trader. He knows he can buy a bunch (scientific unit of measurement I know) of camels for 1,000 copper coins and thinks he can go to the village across the desert and sell them for 1,090 copper coins. The problem is Bansir does not have the 1,000 copper coins readily available, as he has a lot of coinage tied up into chariot making at the moment.

What he does have is good connections. Arvanon is Bansir’s good friend and a savvy investor. He believes in Bansir’s knowledge of the camel trade and will gladly lend Bansir the 1,000 copper coins at 6% interest, after hearing that Bansir believes he can make 9% on this trade (that 90 coin difference that he thinks he can get after buying a bunch of camels for 1,000 copper coins). Here is what that amortization table would look like:

Bansir is willing to pay the 60 coins in interest, 6% * 1,000, because he thinks he can sell the camels for 90 coins more in the other village. After he hopefully collects the 1,090 coins, after selling the bunch of camels, he’ll pay back Arvanon the original 1,000 coins plus another 60 coins in interest payments. This would net Bansir 30 coins! Amazing! Bansir made 30 coins leveraging his knowledge of the camel markets and Arvanon got 60 coins for lending to an expert that had a plan.

Let’s fast forward to 2020. Jason and Kim want to get a car. They’re fresh out of college looking to spend big as they want that new car feel. They get a car loan for $20,000 that has no set schedule but must be paid off by the end of year five. The annual effective interest rate is 4%. Let’s go over some possible scenarios, and I hope you’ll work through some of these with a pencil and paper:

  1. They choose to pay it all at the end of year five with a balloon payment:

You’ll notice the balance is actually increasing under this decision for the first four years. While they’re not making any payments the interest is getting added to the balance at the end of the year and consequently they’re paying even more interest the following year. Some would question, “why would anyone do this? They’re paying more in interest!” Maybe they’re truly irresponsible but let’s not be so quick to judge. Kim happens to be great at repairing antiques and she thinks she can take that 20k and grow it at 8% per year. At the end of five years they’d have $29,386.56. Similar to Bansir they can take what they made and payoff that $24,333.06 that they’d owe for the car, and thus having $5,053.50 at end of year five.

Crushing it in the antique biz:

2. They choose to pay the interest plus $4,000 per year:

Here you’ll notice the interest is going down each year with the payments, as the balance is going down each year by exactly $4,000. The first year they’re paying interest on the original 20k but in the second year they’re only paying interest on 16k and so on and so forth.

3. They want to make it easy and pay the same thing every year:

Notice that the first period always has interest of 800 being applied because we’re always starting at 20k (20000 * .04). In relation to example 2 the year one payment isn’t quite as large ($4,800) and thus the balance at the end of year one is slightly higher than in example 2.

I hope these three examples get you thinking. And like always if you have any questions don’t be scared to reach out. I’m more than happy to go over the material.

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