What is amortization?

What is amortization?

• A. The process of spreading out a loan into a series of fixed payments over time
• B. The fee charged for loan origination
• C. The total interest paid over the life of the loan
• D. The rate at which the loan compounds

Answer: (A)

Amortization is the process of spreading out a loan into a series of fixed payments over time. Each payment includes both interest and principal, so with every payment you reduce the loan balance. In a typical fixed-rate loan, the total payment stays the same each period, while the portion that goes to interest declines and the portion that goes to principal rises, accelerating paydown of the loan. In modeling, an amortization schedule shows for each period how much of the payment goes to interest, how much to principal, and what the remaining loan balance is. This is crucial for understanding how quickly equity builds and how cash flows unfold over the loan term. The other options don’t fit because an origination fee is a one-time charge to obtain the loan, not the ongoing payment structure; total interest paid over the life of the loan is the sum of interest, not how payments are allocated; and the rate at which the loan compounds describes how interest accrues, not how the loan is paid down over time.

Amortization is the process of spreading out a loan into a series of fixed payments over time. Each payment includes both interest and principal, so with every payment you reduce the loan balance. In a typical fixed-rate loan, the total payment stays the same each period, while the portion that goes to interest declines and the portion that goes to principal rises, accelerating paydown of the loan.

In modeling, an amortization schedule shows for each period how much of the payment goes to interest, how much to principal, and what the remaining loan balance is. This is crucial for understanding how quickly equity builds and how cash flows unfold over the loan term.

The other options don’t fit because an origination fee is a one-time charge to obtain the loan, not the ongoing payment structure; total interest paid over the life of the loan is the sum of interest, not how payments are allocated; and the rate at which the loan compounds describes how interest accrues, not how the loan is paid down over time.