How to Calculate Loan Interest

The simplest version of loan interest is the simple interest formula. It treats the loan as a single chunk of principal sitting at a fixed rate for a fixed amount of time, with no compounding inside the period.

The rate is always written as a decimal in the formula. To convert from percent to decimal, divide by 100: 6 percent becomes 0.06, 7.25 percent becomes 0.0725. The unit on time matches the rate: an annual rate is paired with years, so half a year is t = 0.5, three months is t = 0.25.

For a single calculation in this style, the simple interest calculator runs the formula and returns the dollar interest, the ending balance, and the math used to get there.

For a single month of interest on the current balance, the simple interest formula reduces to one line. The annual rate gets divided by 12 to convert to a monthly rate, then multiplied by whatever the balance is right now.

Worked example. $10,000 balance at 6 percent annual interest.

1. Annual rate as a decimal: 6 ÷ 100 = 0.06
2. Monthly interest: 10,000 × 0.06 ÷ 12 = $50.00 for one month

That $50 is what one month of interest costs on a $10,000 balance at 6 percent. What happens to that $50 next depends on the loan structure. On an interest only loan, the borrower pays exactly $50 and the balance stays at $10,000. On an amortizing loan, the scheduled payment covers the $50 of interest plus a slice of principal, and the balance drops a little.

An interest only payment is one period of interest on the current balance and nothing else. Because no principal is being paid, the balance stays the same, and the next period's interest charge is identical.

The full breakdown of the formula, with worked examples and edge cases, lives in the interest only loan formula guide. To run the formula on a specific loan in one step, use the interest only loan calculator. The key idea, in plain terms: during the interest only period, the loan balance does not go down. Each payment is exactly the interest charge for that month.

An amortizing loan payment is a fixed monthly amount that covers both interest and principal. The interest portion is calculated the same way as above (current balance × annual rate ÷ 12), and the rest of the payment goes to principal. As principal drops, the next month's interest charge is slightly smaller, so a slightly bigger piece of the next payment can go to principal. The split shifts every month until the balance reaches zero on the final scheduled payment.

Conceptual example. $10,000 loan at 8 percent over 5 years has a scheduled payment of about $202.76 per month.

• Month 1 interest: 10,000 × 0.08 ÷ 12 ≈ $66.67
• Month 1 principal: 202.76 − 66.67 ≈ $136.09
• Balance after month 1: 10,000 − 136.09 ≈ $9,863.91
• Month 2 interest: 9,863.91 × 0.08 ÷ 12 ≈ $65.76 (slightly less than month 1)

The pattern continues for the full 60 months. The exact payoff schedule and total interest for any amortizing loan are produced by the loan calculator, and the standard amortization formula behind it is walked through in the how to calculate a loan payment guide.

The interest rate is what produces the periodic interest charge on the balance, and it is what the payment math uses. APR (annual percentage rate) is a broader figure that also includes certain loan costs and re-expresses the total as a single annualized rate. APR is meant for comparing loan offers; it is usually not the rate plugged into the basic payment formula.

A loan with no fees can have an APR that equals or nearly equals its interest rate. A loan with points, origination fees, or other lender costs will usually have an APR higher than the interest rate. The longer discussion lives in the APR vs interest rate guide.

APY (annual percentage yield) and loan interest are related but used on different sides of a transaction. APY is commonly used to describe the return on savings and includes the effect of compounding inside the period. Loan payment math, by contrast, usually runs off a periodic rate without baking a compounding adjustment into the quoted figure.

For yield math on a savings account, money market, or CD, the APY calculator converts between nominal rate, compounding frequency, and effective annual yield. It is not the right tool for a loan payment, but it answers the related question on the savings side.

• Forgetting to convert percent to decimal. 6 percent is 0.06, not 6. Multiplying by 6 instead of 0.06 inflates the answer by a factor of 100.
• Dividing by 100 twice. If the rate has already been converted to a decimal, do not divide by 100 again inside the formula.
• Using APR as the monthly payment rate without understanding the lender calculation. Standard payment math uses the interest rate, not the APR; substituting APR would overstate the payment.
• Assuming every loan uses simple interest. Mortgages, auto loans, and personal loans usually amortize, which applies the rate to a shrinking balance over many months.
• Forgetting that amortizing payments include principal, not just interest. The size of the scheduled payment is not the same thing as the interest charge for the month.
• Ignoring fees, taxes, insurance, escrow, points, and lender rules. The interest formula handles the interest line; the total cost of a real loan can include several other items that the formula does not touch.

Match the calculator to the loan structure. The same balance and rate can feed more than one of these, depending on what you are trying to compute.

For yield math on the savings side, the APY calculator handles compounding. The rest of the money calculators cover related questions for payments, interest, and savings.