When deciding on a student loan repayment schedule, some folks might think the one with the lowest possible monthly payment is best.
What these same folks might not realize is that often the lowest monthly payment means the loan is stretched out over a longer time frame, which results in the borrower paying more in interest than they otherwise would have with a shorter loan term and a higher monthly payment.
Why does this happen? Because of a process called amortization. Amortization is the process of paying back a loan on a fixed payment schedule over a period of time.
With a loan, such as a student loan, each monthly payment is the same, but a calculation is done to determine what proportion of each payment is allocated to a loan’s interest and to its principal balance. This schedule of payments is called a student loan amortization schedule.
You may have heard people complain about how much of a loan payment goes toward interest during the beginning stages of a loan. This is what they’re referring to; the process by which interest is spread out over the life of the loan according to an amortization schedule.
Over the course of making monthly payments on your student loans, the payments are often applied primarily to the interest especially toward the beginning of your repayment timeline.
We’re going to get into some of the nitty-gritty amortization info, but before we go there, we just want to be straight with you: This is an incredibly complex topic.
We’re going to try to break it down the best we can, but please understand that this info is general in nature and does not take into account your specific objectives, financial situation, and needs; it should not be considered advice. SoFi always recommends that you speak to a professional about your unique situation.
Below we’ll do our best to cover how and which loans amortize, take a closer look at student loan amortization, and explore some ways a student loan borrower might be able to lower the amount that they’ll pay in interest over the course of their loan.
Exploring Amortization
First, it’s important to understand how to calculate the cost of a loan. You’ll need to know these three variables:
1. The value of the loan, also known as the principal
2. The interest rate and annual percentage rate (APR)
3. The duration, or term, of the loan (usually given in months or years)
Using this information, it is possible to determine both the monthly payment on the loan and the total interest paid on the loan. An online student loan interest calculator can help you figure this out.
The next step is to determine how much of each monthly payment is going toward both interest and principal. That’s when the amortization schedule comes into play. You can calculate amortization using this calculator to get an idea. But we want to understand what’s going on behind the calculator, and it helps to understand that amortization happens only on “installment” loans—and all student loans are installment loans.
There are two types of loans: installment loans and revolving credit. A mortgage, student loan, or car loan are all examples of installment loans. With an installment loan, the borrower is loaned an amount of money (called the principal) to be paid back over a designated amount of time, with interest.
Revolving credit, on the other hand, is not a loan disbursed in one lump sum, but is a certain amount of credit to be used as the borrower pleases, up to a designated limit. A credit card and a line of credit are forms of revolving credit. A borrower’s monthly payment is determined by how much of the available credit they are using at any given time; therefore, minimum payments can change from month to month.
Student Loan Amortization Examples
Because student loans are an installment loan—meaning a specific amount of money is disbursed to the borrower—student loans are amortized. Parts of each payment are applied to both the loan’s principal and its interest. But at the beginning of the loan, a much larger proportion is typically allocated to interest on student loans, per the lender’s requirements.
Due to the way compounding works, the effect is more dramatic the longer the length of the loan. Take, for example, a $30,000 loan at 7% interest rate amortized over a 10-year repayment period.
The borrower’s monthly payment should be around $348. Each year, the borrower will pay $4,180 total towards their loan. This doesn’t change, although the proportion that is allocated towards principal and interest does change.
(All examples calculated above were from using this student loan calculator. Example calculations below are from Bankrate’s calculator .)
Example Amortization Schedule Student Loan $30,000, 7% interest over 10 years starting January 2019
| Date | Interest Paid | Principal Paid | Balance |
|---|---|---|---|
| Jan, 2019 | $175 | $173 | $29,827 |
| Feb, 2019 | $174 | $174 | $29,652 |
| Mar, 2019 | $173 | $175 | $29,477 |
| Apr, 2019 | $172 | $176 | $29,301 |
| May, 2019 | $171 | $177 | $29,123 |
| Jun, 2019 | $170 | $178 | $28,945 |
| Jul, 2019 | $169 | $179 | $28,765 |
| Aug, 2019 | $168 | $181 | $28,585 |
| Sep, 2019 | $167 | $182 | $28,403 |
| Oct, 2019 | $166 | $183 | $28,221 |
| Nov, 2019 | $165 | $184 | $28,037 |
| Dec, 2019 | $164 | $185 | $27,852 |
2019
| $2,032 |
$2,148 |
$27,852 |
|
| 2020 | $1,877 | $2,303 | $25,852 |
| 2021 | $1,710 | $2,470 | $23,079 |
| 2022 | $1,532 | $2,648 | $20,431 |
| 2023 | $1,340 | $2,840 | $17,591 |
2024
| $1,135 |
$3,045
| $14,546 |
|
2025
| $915 |
$3,265
| $11,281 |
|
2026
| $679 |
$3,501
| $7,780 |
|
2027
| $426 |
$3,754
| $4,026 |
|
| Jan, 2028 | $23 | $325 | $3,701 |
| Feb, 2028 | $22 | $327 | $3,374 |
| Mar, 2028 | $20 | $329 | $3,045 |
| Apr, 2028 | $18 | $331 | $2,715 |
| May, 2028 | $16 | $332 | $2,382 |
| Jun, 2028 | $14 | $334 | $2,048 |
| Jul, 2028 | $12 | $336 | $1,712 |
| Aug, 2028 | $10 | $338 | $1,373 |
| Sep, 2028 | $8 | $340 | $1,033 |
| Oct, 2028 | $6 | $342 | $691 |
| Nov, 2028 | $4 | $344 | $346 |
| Dec, 2028 | $2 | $346 | $0 |
| 2028 | $154 | $4,026 | $0 |
Using this estimated example, during the first year, the borrower’s monthly payments would be made up of about half interest and half principal. At the end of the year, the hypothetical borrower has paid $4,180 towards their student loan, and $2,032 of that went to interest, while $2,148 went to paying down the principal. The loan is now valued at $27,852 (that’s $30,000 minus $2,148).
With each passing month and year paying down debt, more of each payment is allocated towards the principal. By the ninth and final year, the imaginary borrower above pays only $154 to interest and $4,026 to principal.
(P.S., we got this rough estimation using the amortization calculator we mentioned above.)
Let’s look at another example of a hypothetical student loan amortization schedule, but along a longer timeline, such as twenty years. It should be noted that a twenty-year payback period isn’t “standard” for federal student loans, but the important takeaway here is the impact of time on amortization calculations.
Here’s a table with the results of a hypothetical $60,000 student loan at a 7% fixed rate, paid back over 20 years.
Amortization Schedule Student Loan $60,000, 7% interest over 20 years:
| Date | Interest | Principal | Balance | Jan, 2019 | $350 | $115 | $59,885 |
|---|---|---|---|
| Feb, 2019 | $349 | $116 | $59,769 |
| Mar, 2019 | $349 | $117 | $59,652 |
| Apr, 2019 | $348 | $117 | $59,535 |
| May, 2019 | $347 | $118 | $59,417 |
| Jun, 2019 | $347 | $119 | $59,299 |
| Jul, 2019 | $346 | $119 | $59,179 |
| Aug, 2019 | $345 | $120 | $59,060 |
| Sep, 2019 | $345 | $121 | $58,939 |
| Oct, 2019 | $344 | $121 | $58,817 |
| Nov, 2019 | $343 | $122 | $58,695 |
| Dec, 2019 | $342 | $123 | $58,573 |
| 2019 | $4,155 | $1,427 | $58,573 |
| Jan, 2038 | $31 | $434 | $4,942 |
| Feb, 2038 | $29 | $436 | $4,506 |
| Mar, 2038 | $26 | $439 | $4,067 |
| Apr, 2038 | $24 | $441 | $3,626 |
| May, 2038 | $21 | $444 | $3,182 | Jun, 2038 | $19 | $447 | $2,735 |
| Jul, 2038 | $16 | $449 | $2,286 |
| Aug, 2038 | $13 | $452 | $1,834 |
| Sep, 2038 | $11 | $454 | $1,379 |
| Oct, 2038 | $8 | $457 | $922 |
| Nov, 2038 | $5 | $460 | $462 |
| Dec, 2038 | $3 | $462 | $0 |
| 2038 | $206 | $5,376 | $0 |
In this example, each monthly payment for the 20-year duration is $465.18 (again, rounded down to $465 for simplicity’s sake above). In January 2019, the first month of the first year of the loan, $350 is paid towards interest, and just $115 is paid towards the principal. That’s less than 25% of the total payment, compared to 50% in the previous example.
By the end of the hypothetical loan, hardly any of the payment is allocated towards interest, and the majority is applied to the principal. In the very last monthly payment in the last year, only $3 goes towards interest and $462 to principal. In the last year, only $206 total goes towards interest versus $4,155 in the first year.
If you’re interested in expediting your loan payoff, it may inspire you to play around with a student loan repayment calculator to get your own estimate of just how much you could save on interest if you shorten your loan term.
Alternative Repayment Plans and Amortization
Some borrowers may be using one of the alternate repayment plans for federal student loans, which are generally referred to as “income-driven repayment plans.” There are several different options, including Pay As You Earn (PAYE) and Income-Driven Repayment (IDR), but all of these similar repayment plans use your monthly income and family size to determine what you’ll owe each month.
Depending on discretionary income and family size, monthly payments are generally lower than with the standard, 10-year repayment plan because repayment is stretched out over 20 or more years.
Not only will you likely pay more in total interest over the course of a longer loan, but it is possible that your payments will dip into what is called negative amortization. Negative amortization happens when your monthly payment is low enough that it doesn’t even cover the interest for that month.
When this happens, it is possible that this unpaid interest will be capitalized, which means that it will be added to the principal balance of the loan. All interest calculations thereafter will be made on the new principal balance, which means that the borrower could be paying interest on top of those previously unpaid interest payments.
This is not ideal, of course, but utilizing an income-driven repayment plan is a much better option than missing payments altogether or defaulting on a federal student loan. Using an income-driven repayment plan is also necessary if the borrower plans on utilizing the Public Service Loan Forgiveness (PSLF) program.
Managing Student Loan Amortization
If an amortized student loan payment seems frustrating to you, that’s because it is. One way to alleviate the pain is to pay your student loans back faster than the stated term.
Making additional payments on your loan can do a lot to lower what you’ll owe in interest because knocking out the interest can prevent it from capitalizing on your loan. Furthermore, paying off the loan before the stated term can allow you to pay less interest over the life of the loan.
If you opt to pay more than your minimum payments or consistently make additional payments on your loans, it’s a good idea to let your lender know that the additional payment is to be applied to the principal of the loan, not the interest, so you can be sure your extra payments are working towards lowering the principal amount you’re paying interest on.
If you are mailing a check, you might want to include a note. If you’re making a payment online, you can call your loan service provider to make sure that they apply for the money correctly.
For borrowers with multiple federal or private student loans who want to expedite their debt repayment, it can be hard to know where to start. If your goal is to reduce the overall amount of interest you owe , you might want to consider the “debt avalanche” method of debt repayment.
Using this method, you would choose the student loan debt with the highest interest rate and work on “attacking” it first. You would do this while making the minimum payment on all other loans or sources of debt. After the highest interest rate loan is paid off, redirect any additional funds you were paying toward the first loan to the loan with the next highest interest rate.
Graduates can also consider refinancing their loans. When you refinance, you’re essentially paying off your old loan or loans with a new loan from a private lender, like SoFi. Ideally, you refinance in order to get a lower rate on the loans than you currently have.
Student loan refinancing companies are generally able to offer a lower interest rate or more favorable loan terms to graduates who have met their lending criteria, which may include having a strong financial history and income among other things.
It’s usually worth checking to see if you qualify for a lower rate than you’re currently paying. With refinancing, you’re also usually able to adjust other aspects of your loans, such as the repayment schedule. You may be able to extend it, if you’re looking for lower monthly payments, or shorten it, if you want to pay less in interest—and outsmart amortization—on your loan.
When deciding to refinance, borrowers should consider their current financial situation and any benefits their federal student loans currently have, such as an income-driven repayment plan or Public Service Loan Forgiveness option. When you refinance with a private lender, you will lose access to these federal programs.
SoFi Student Loan Refinance
If you are a federal student loan borrower, you should consider all of your repayment opportunities including the opportunity to refinance your student loan debt at a lower APR or to extend your term to achieve a lower monthly payment. Please note that once you refinance federal student loans you will no longer be eligible for current or future flexible payment options available to federal loan borrowers, including but not limited to income-based repayment plans or extended repayment plans.
SoFi Loan Products
SoFi loans are originated by SoFi Bank, N.A., NMLS #696891 (Member FDIC). For additional product-specific legal and licensing information, see SoFi.com/legal. Equal Housing Lender.
External Websites: The information and analysis provided through hyperlinks to third-party websites, while believed to be accurate, cannot be guaranteed by SoFi. Links are provided for informational purposes and should not be viewed as an endorsement.
Financial Tips & Strategies: The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.
SLR8228
