Loans:What happens to interest expense as you make more payments on a loan?

What happens to interest expense, relative to payments, on a fully amortizing loan, as you make more payments?

Question options:

  • The fraction of the payment that is the interest expense decreases as you make more payments.
  • Interest expenses remain a constant fraction of all payments.
  • The fraction of the payment that is the interest expense increases as you make more payments.

Answer:

  • The fraction of the payment that is the interest expense decreases as you make more payments.

Since the remaining balance is always decreasing, and interest expense is proportional to the remaining balance, it makes sense that the interest expense will decrease. The total payment amount remains constant, so the fraction that is the interest expense must decrease.

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