Last Updated on March 24, 2021 by Ope Quadri
Most times, people apply for a loan and ask for the date of repayment without understudying the interest rate.
It is very very important to know how to calculate loan interest: 1) to know if it worth it, 2) if the loan would return more profit on investment to cater for the interest rate.
In this post, we’ll show to calculate how much you’d be paying “on top” of your loan whether it’s personal or to boost your business.
Concept of loan:
A loan is the amount of money taken by an individual or organisation to support a business or for personal use on the condition that it will be repaid on a specific date with or without interest.
- Interest loan
- Interest-free loan (non-interest)
You agree to pay a certain charge rate. This is common to financial institutions and money lenders.
They make a profit from the interest rate charged on the loan you take. This could come as either secured or unsecured loan. You are the debtor.
Interest-free loans are hard to come by. Governments that want to support SME usually make provision for interest-free to boost small businesses.
When it’s interest-free, it means you only pay the principal (that is the amount borrowed) without additional charges.
This kind of loan isn’t to make a profit-making venture for the lender, but to support the borrower.
Some financial institutions are ready to offer non-interest loans provided you have a highly convincing business idea and ready to share the profit of the business with the lender.
Having said that, it’s very important to pay attention to the following loan terminologies:
- The Principal
- Interest rate
- Date of repayment
The amount of money loaned or borrowed e.g N250,000 loan is the principle without additional charges.
This is a person or organization whose business it is to lend money with aim of making a profit on interest.
Loanee is the borrower, that the person who approaches a money lender or bank for financial assistance and ready to abide by the terms and conditions of the lender including an agreement to pay both principal and interest.
It’s a rate charged or paid for the use of money borrowed. Economically, an interest rate is usually expressed as an annual percentage of the principal. It is calculated by multiplying the rate of interest by the principal.
Simply put, it is the charges you pay for borrowing money. For instance, if you took N250,000 and by the time repayment you paid N260,000, N10,000 is the interest.
For instance, most of the NIRSAL Microfinance Bank loan is 9% which is quite fair compared to other financial institutions.
Date of Repayment:
The date on which the principal and interest must be repaid or returned. In the Yoruba language, the principle is called “oju owo” (reminremin) while the interest is called “ele” (domin)”
Tenor means the length of time remaining before a financial contract expires. It is usually used in relation to bank loans, insurance contracts, and derivative products.
Some use it interchangeably with the term maturity, but they have a clear distinction.
For example, a loan is taken out with a three-year tenor. After two-year passes, the tenor of the loan is one year.
From a contract point of view, tenor and maturity have distinct meanings. Maturity refers to the initial length of the agreement upon its inception.
For instance, if a 2-year SME loan was obtained two years ago, the maturity would be 2 years while the tenor would be the time remaining until the end of the contract.
If a year is gone, then it means the tenor is one year (the remaining year).
Maturity remains constant, the tenor is not.
How to calculate loan interest
Do you want to calculate how much interest you will be paying on your loan? Here are two samples on how to calculate it:
For instance, if the interest rate of N250,000 is 9% per year, it means you would be paying N22,500 as interest every year.
To break this down, you would be paying N1,875 monthly as interest on your N250, 000
Remember, this depends on the tenor (the length of time until a loan is due).
For instance, if your N250,000 loan has a 2-year tenor, it means you would pay N50,000 as interest.
To break it down, over the 24 months (two years) you would be N1,875 per month as interest.
For example, if a bank charges you 15% interest in a year on a loan of N2,000,000, then the interest to be paid would be N2,000,000 X 15/100 X 1year = N300,000 (per annum)
- Don’t just apply for a loan, take your time to calculate the interest rate to know if it worth it
- Don’t take a loan you won’t be able or find it difficult to repay, use your sources of income to determine if a loan is appropriate for you.
- The interest rate of a loan is the main profit for the lender