Reference no: EM131222122
An amortized loan requires a borrower to repay parts of the loan amount over time. Almost all consumer loans are amortized loans. Amortizing a loan 2 is the process of providing for a loan to be paid off by making regular principal deductions. There are two ways for amortizing a loan.
One way is to repay a fixed amount of principal plus a varying amount interest in each period. This approach is common with medium-term business loans. The other is to repay in equal installments, but the composition of principal and interest is varying in each period.
For example, a three-month loan of $6000 with monthly interest rate of 2% has the following schedule based on the first way of fixed principals: Month Beginning Balance Monthly Payment Principal Interest Ending Balance 1 $6,000 2,120 2,000 120 4,000 2 $4,000 2,080 2,000 80 2,000 3 $2,000 2,040 2,000 40 0 Totals $6,240 $6,000 $240
a. Complete the following schedule for the second way of equal installments. Month Beginning Balance Monthly Payment Principal Interest Ending Balance 1 $6,000 120 2 3 Totals
b. Are the two schedules equivalent in terms of present values? Why or why not?
c. Why is the total sum of interest payments higher for the equal installment schedule?
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