How to calculate interest on a loan

Interest in one month and in total

Interest in a month equals the balance times the annual rate divided by 12. On $12,000 at 9% the first month’s interest is $12,000 × 0.0075 = $90. The payment on this loan is $381.60, so $291.60 reduces the balance.

Total interest is the sum of all months’ interest, or equivalently the payment times the number of months minus the amount borrowed: $381.60 × 36 − $12,000 = $1,737.60 (rounded).

Simple interest versus compound interest

On an amortizing installment loan, interest is charged only on the unpaid principal, so it is not compounded on interest already paid. On a credit card, unpaid interest is added to the balance, so interest compounds. That is why card debt grows faster than installment debt at the same rate.

$12,000 at 9% by loan length

Borrowing $12,000 at 9% over 3 years costs $381.60 a month and $1,737 in interest, $13,737 in total. Shorter terms raise the payment but cut the interest, and longer terms do the reverse. The table shows the trade-off across common terms.

How your rate changes the cost

Personal loan rates vary widely with credit score, from the mid single digits for strong borrowers to 30% or more for weak credit. On $12,000 over 3 years, moving from 9% to 12% adds $611 in interest.

Where the interest goes

In the first year of this $12,000 loan you pay $932 in interest, 20% of everything you pay that year. Interest is calculated on the balance each month, so it shrinks as you pay the loan down.

How much can you borrow for a given payment?

Working backwards at 9% over 3 years, here is the loan size each monthly payment supports.

When is half of a $12,000 loan repaid?

With a $381.60 payment, the balance falls below half ($6,000) after 20 payments, about 1.7 years into a 3 years loan. Because interest is highest at the start, the second half of the loan is paid down much faster than the first.