How Is Loan Interest Calculated?
For a standard fixed-rate loan the rule fits in one sentence: each month you pay the monthly rate on whatever you still owe. Everything else — the payment formula, the amortization table, the total interest figure — unfolds from that sentence plus arithmetic.
From APR to a Month of Interest
| Monthly rate | APR ÷ 12 — at 8% APR, 0.6667% per month |
|---|---|
| A month's interest | remaining balance × monthly rate — on 10,000: 66.67 in month one |
| Total interest | payment × months − principal — 313.36 × 36 − 10,000 ≈ 1,281 |
Because interest attaches to the remaining balance, it shrinks every month as principal is retired — the mechanism traced row by row in the amortization schedule guide.
Where the Payment Formula Comes From
The fixed payment M = P·r(1+r)ⁿ ÷ ((1+r)ⁿ − 1) is the unique amount that, applied every month against balance-based interest, lands the balance exactly on zero at month n. It is the same compound-growth machinery as saving — compare the compound interest formula — run in reverse: the lender's deposit (your loan) grows at r while your payments chip it away.
The Quotes That Mislead
Two patterns inflate real cost beyond the headline number. Flat rates charge interest on the original principal for the whole term — a "5% flat" loan costs roughly what a 9–10% amortized APR costs, because you keep paying interest on money you have already returned. Fee-loaded offers shift cost out of the rate and into origination fees deducted from proceeds — the mechanics our loan calculator surfaces as "you actually receive", and the reason the loan calculator guide says to compare offers on APR and total interest, never on the advertised rate.
Frequently Asked Questions
Is loan interest charged on the original amount or the balance?
On the remaining balance, for standard amortized loans. That is why interest falls every month as the balance
declines — and why flat-rate loans quoted on the original amount are far more expensive than they look.
How do I calculate total interest on a loan?
Monthly payment × number of payments − amount borrowed. For 10,000 at 8% over 36 months: 313.36 × 36 −
10,000 ≈ 1,281.
What is a flat rate vs a reducing balance rate?
A flat rate charges interest on the original principal all term long; a reducing-balance (amortized) rate
charges only on what you still owe. A 5% flat rate roughly equals a 9–10% reducing-balance APR — always
compare on APR.