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What is a Loan Principal? Definition, Formula & Everything You Need to Know
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Disclaimer: This Article is for information purposes only. The views expressed in this Article do not necessarily constitute the views of Kotak Mahindra Bank Ltd. (“Bank”) or its employees. The Bank makes no warranty of any kind with respect to the completeness or accuracy of the material and articles contained in this Article. The information contained in this Article is sourced from empaneled external experts for the benefit of the customers and it does not constitute legal advice from the Bank. The Bank, its directors, employees and the contributors shall not be responsible or liable for any damage or loss resulting from or arising due to reliance on or use of any information contained herein. Tax laws are subject to amendment from time to time. The above information is for general understanding and reference. This is not legal advice or tax advice, and users are advised to consult their tax advisors before making any decision or taking any action.
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The foundation of your mortgage is the amount of the principle in a loan. It represents the sum you borrow minus additional costs. Determining the significance of the principal amount is crucial for prospective borrowers, as it impacts loan repayment, interest calculations, loan tenure, and EMI calculations.
This article aims to explain what a loan principal is. It will discuss the principal definition, its calculation, and its significance. The various factors affecting the principal will also be covered. Read on to gain a clear understanding of this important loan concept.
What is a Loan Principal?
The principal of a loan simply refers to the total amount of money being borrowed from the lender. It is the actual cash amount disbursed by the lender, which the borrower uses for their needs and then repays according to the loan terms.
The principal amount is the foundation on which interest is calculated. It remains the same throughout the loan's tenure unless prepayments are involved. For example, if you take a Home Loan of Rs 50 lakh, then the principal amount is Rs 50 lakh.
What is the Formula of Principal Amount?
Let's understand the formula to calculate the principal amount of a loan.
Imagine you're taking Rs 40 lakh Personal Loan in India. The interest rate is 10.99% per year, and you plan to repay it over 6 years. The formula calculates the initial amount borrowed, known as the principal (PP), considering how interest compounds over time.
Here’s an example:
P=40,00,000(1+0.10991)1×6P=(1+10.1099)1×640,00,000
This formula helps you understand the original borrowed amount before interest.
To calculate the principal component in loan repayment EMIs, use a loan calculator on Kotak Mahindra Bank's website. It's a helpful tool for managing personal finances and planning loan repayments in a clear and straightforward manner.
Loan Principal vs. Interest Rate
A loan's principal amount and interest rate are interrelated but have different components. The principal is the total amount of money the borrower still owes, less additional fees.
Interest is a charge the borrower has to pay for borrowing the money. The Annual Percentage Rate (APR), expressed as a percentage of the principal debt, often determines this sum.
Interest rates are set by banks and money-lending institutions independently. However, market levels and the Reserve Bank of India influence rates at the national level.
Borrowers should opt for lower interest rates and shorter tenures to pay less total interest over the loan term.
How do you repay the principal amount?
You typically have several options to repay the principal amount in an Online Personal Loan. The most common method is regular monthly payments that include a portion of the principal and the interest accrued.
These payments are spread out over a specific period, usually ranging from a few months to several years, depending on the terms of the loan agreement. Another way to repay the principal amount is by making lump sum payments whenever possible, which can help reduce the overall interest paid and shorten the repayment period.
Some lenders also offer the flexibility to make extra payments towards the principal without any penalties, enabling borrowers to repay the loan faster.
It's essential to carefully review your loan agreement to understand the terms and conditions of principal repayment, including any prepayment options or fees.
By making consistent and timely payments towards the principal, you can steadily reduce your debt and clear the entire loan amount. Being diligent in managing your finances and prioritising loan repayments can help you successfully repay the principal amount of your loan and achieve financial stability.
How to Figure Out the Principal Amount of your Loan?
If you already have an existing loan and want to calculate the outstanding principal amount, here are a few ways to do it:
Conclusion
The principal amount is the key foundational component of any loan on which all other charges are calculated. It represents both a major cash outflow for lenders and repayment responsibility for borrowers. Understanding its meaning, calculation, and significance is crucial before getting a loan.
Borrowers must evaluate their loan eligibility carefully and opt for a conservative principal loan amount that can be comfortably repaid through EMIs within the agreed terms. Lenders also assess principal amounts prudently based on risk factors. Together, the borrower and lender work towards prudent utilisation and full settlement of the principal sum over the loan's lifetime.
Frequently Asked Questions (FAQs)
Q.1: What is the personal loan principal?
The loan principal is the total amount borrowed from the lender. It is the starting balance on which interest gets calculated over the tenure of the loan. For example, if someone takes a personal loan of Rs. 500,000, the principal amount is Rs. 500,000.
Q.2: How do I identify the loan principal?
There are a few simple ways to identify your loan principal:
Q.3: Can the loan principal change over time?
The loan principal usually remains fixed over the entire repayment period of the loan. However, in some cases, like during loan recasts or forensic audits, the lender may allow increasing or decreasing the principal amount to realign the EMI payments. But in most regular-term loans, the principal amount sanctioned stays constant.
Q.4: How does paying off the loan principal affect my overall debt?
As you make regular repayments of your loan through EMIs, the principal portion of each EMI goes towards settling the principal debt. This helps reduce your total debt load over time. Fully paying off the principal will clear all outstanding liability on the loan and reduce your overall debt burden.
Q.5: Can I negotiate the loan principal with the lender?
While the interest rates can sometimes be renegotiated, negotiating the sanctioned principal amount with the lender is usually impossible. This is because principal negotiation would require rewriting the loan agreement terms. However, in some special cases, like lowering LTV ratios, you may be able to borrow a lower principal amount than originally sanctioned. It depends on the lender's policies.
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