Generally, amortization refers to the paying off of debt over a period of time. This is done through installment payments. Most often, these are setup as a way of leveling out your monthly payment. To do this, the payments cover both interest and principal each month. At first, payments will mainly go to interest and very little to principal. Then, as the loan is closer to being paid off, the payment goes more towards principal than interest.
In order to better understand why amortizing loans are setup this way, lets take a look at principal and interest. Since the interest on a loan is calculated off of the most recent statement balance each month, the interest gets smaller as you make payments. This is due to making payments that exceed the interest owed on the loan, thus reducing the overall principal. Therefore, decreasing the amount going towards interest too. From this, one can see that as you make payments, the amount going to the principal increases. While on the other hand, the amount that goes to interest decreases.
In real estate, the term also describes how one repays certain types of loans. An amortization schedule determines these repayment terms. Within the amortization schedule, one will receive a breakdown of exactly how much of each payment is going towards interest and the principal. In addition to this, the schedule will show the time period in which the loan should be paid in full.
Over the period of the loan, the principal is paid back in full through the installment payments. Most commonly, the periods on commercial real estate loan include 20, 25 or 30 years.
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