A borrower three years into a thirty-year mortgage checks the balance and finds it has barely moved. The instinctive reaction is that something is wrong, or that the bank is taking advantage. Neither is true. It is what the standard amortisation formula produces, and once you see why, you also see exactly where the leverage is.
What a fixed instalment is made of
In a fixed-payment loan — the French amortisation system used for most mortgages and car loans — you pay the same amount every month. That amount is split in two: interest on the balance you still owe, and principal, which is what actually reduces the debt.
Interest is charged on the outstanding balance. At the start the balance is at its largest, so interest eats most of the payment and little goes to principal. As the balance falls, so does the interest portion, and the principal portion grows. The instalment never changes; its composition changes every single month.
A worked example
Borrow 300,000 over 30 years (360 months) at 9% a year, which is 0.75% a month. The formula gives an instalment of about 2,414.
| Payment | Interest | Principal | Remaining balance |
|---|---|---|---|
| 1 | 2,250 | 164 | 299,836 |
| 60 (year 5) | 2,141 | 273 | 285,206 |
| 180 (year 15) | 1,660 | 754 | 220,563 |
| 300 (year 25) | 722 | 1,692 | 94,586 |
| 360 (final) | 18 | 2,396 | 0 |
In the first payment, 93% goes to interest. After five years of paying — more than 144,000 handed over — the debt has fallen by under 15,000. Over the full term the borrower pays roughly 569,000 for a 300,000 loan: the interest exceeds the amount borrowed.
Mortgage Simulator Build the full schedule for your own loan and see the instalment split month by month. Open the toolWhy extra payments are so powerful early
An extra payment applied to principal removes that amount from the balance permanently — and with it, every future interest charge that amount would have generated for the rest of the term. Paying an extra 500 in month 12 of the loan above does not save 500; it saves roughly 6,000 over the remaining life, because that principal would otherwise have accrued 0.75% a month for another 29 years.
The same 500 paid in month 300 saves almost nothing, because there is barely any term left for interest to accumulate. The value of an extra payment falls with every month you wait, which is why prepayment is the highest-return, lowest-risk financial move available to most borrowers with expensive debt.
Cut the term or cut the instalment?
When you prepay, most lenders let you choose: keep the instalment and shorten the term, or keep the term and reduce the instalment. They are not equivalent.
- Shortening the term saves far more interest, because you remove the most expensive months — the ones at the end where the loan is still generating charges. This is the default choice if the payment is affordable.
- Reducing the instalment frees up monthly cash flow and lowers your risk of default if income drops. It saves less interest but buys breathing room.
- A middle path: shorten the term while your income is stable, and switch to reducing the instalment if circumstances tighten.
Constant amortisation: the other system
Some loans — common in Brazilian mortgages as the SAC system — amortise a constant amount of principal each month, so the instalment starts higher and falls over time. Total interest paid is lower than with a fixed instalment, because the balance drops faster from the beginning. The trade-off is the higher initial payment, which also raises the income you must prove to qualify.
| System | First instalment | Last instalment | Total interest |
|---|---|---|---|
| Fixed payment (French) | 2,414 | 2,414 | ≈ 269,000 |
| Constant amortisation (SAC) | 3,083 | 839 | ≈ 203,000 |
What the advertised rate leaves out
The nominal rate is not what the loan costs. Administration fees, mandatory insurance, valuation charges and registration costs are usually financed alongside the principal, which means you pay interest on them too. The comparable figure is the total effective cost — the APR, or in Brazil the CET — which folds every charge into a single annual rate.
Always compare offers on the effective cost, never on the headline rate. A loan advertised at a lower nominal rate with heavier fees frequently ends up more expensive, and the gap only shows up once everything is inside the same number.
Four practical rules
- 1 Ask for the full amortisation schedule before signing. If the lender cannot produce one, build it yourself.
- 2 Compare the total effective cost, not the nominal rate.
- 3 Prepay as early as you can afford to, and direct prepayments at principal, not at future instalments.
- 4 Clear expensive debt first. Paying down a card at 200% a year beats prepaying a mortgage at 9% by an enormous margin.