Principal

Principal is the money itself, as opposed to the price of borrowing it. On the day a loan is made the principal is the amount borrowed; from then on it is whatever of that amount is still owed, and interest is charged on it each period. Every payment is split in two, the interest for the period first and the principal it retires with what is left. Only the principal portion of a payment reduces what you owe, and only that portion raises your net worth; the interest is the cost of the month and is gone. On a savings account it is the money you deposited, as distinct from the interest earned.

In a sentence

• "Of the first $395.08 car payment, $115 was interest and $280.08 went to principal."
• "An extra $100 a month goes entirely to principal, so the loan ends thirteen months early and costs $880 less."
• "The payment is what the lender collects each month; the principal is the $20,000 you borrowed, and the interest is the rent on it."

How it works

1. The starting principal is the amount borrowed, plus any fee the lender rolls into the loan rather than collecting up front.
2. Each period, interest is charged on the principal outstanding. On a loan that is a twelfth of the annual rate times the remaining balance.
3. The payment covers the interest first; whatever is left reduces the principal. On a fixed payment, the interest share shrinks and the principal share grows as the balance falls.
4. Next period's interest is charged on the smaller principal, so the same payment retires a little more of it each month.
5. An extra payment marked for principal reduces the balance directly, and every later interest charge is smaller for it; an unmarked one may be applied to the next scheduled payment instead, which saves nothing.

Principal paid = payment − interest for the period

The word means the same thing on every kind of account.

An example

A $20,000 car loan at 6.9% for sixty months, the example's assumptions, has a payment of $395.08.

The principal share rises from $280 in the first month to $392 in the last, and halfway through the term more than half the principal is still owed. Over sixty payments the loan returns the $20,000 of principal and $3,704.90 of interest. Adding $100 a month, all of it principal, clears the loan in 47 months and cuts the interest to $2,825.22, a saving of $879.68.

Why it matters

The split between principal and interest is what a payment is doing. A $395 payment that retires $280 of principal is $115 of rent on the money, and the rent is the part that is spent; net worth moves by the principal alone, because the loan balance falls by that amount while the whole payment left checking. A longer term lowers the payment and raises the interest, because less principal is retired each month: the same $20,000 over 72 months is $340.02 a month and $4,481.47 of interest, $776.57 more than over 60. An extra payment does the most good early, when the balance is largest. The mistake the word prevents is reading the whole payment as progress: the statement lists the two portions, and only one is yours to keep.

Principal versus interest

Principal is what you borrowed and still owe; interest is what the lender charges for the time you owe it, set by the interest rate and the balance. The two arrive in the same payment but go to different places: the principal comes off the balance, and the interest is the lender's income. A loan paid on schedule returns the principal exactly once and pays interest every month on whatever is left. See How paying off debt raises your net worth for what the principal portion does to the other number.

Common questions

Is principal the same as the loan balance? At the start, yes. Afterward the balance on a statement is the principal outstanding plus any interest accrued since the last payment, which is why a payoff quote runs a little above the statement's principal balance.

Why does so little of my early payment go to principal? Because the interest is charged on the balance, and the balance is largest at the start. A fixed payment covers the interest first, so the principal share is smallest in the first month and grows as the balance falls.

Does paying extra principal lower my monthly payment? On most car, student and personal loans, no. The payment stays the same and the loan ends sooner, with less interest over its life. A mortgage recast, where the lender offers one, lowers the payment instead and keeps the term.

Does the principal on a mortgage include taxes and insurance? No. A mortgage payment is principal and interest, often with an escrow portion for property tax and homeowners insurance collected alongside them. Only the principal portion reduces the loan; the taxes and insurance are bills paid through the lender.

Is principal only a loan word? No. On a savings account or an investment, principal is the money you put in, and everything above it is interest or return. The distinction matters for what can be lost: a bank deposit's principal is insured up to the federal limit, and an investment's is not.

Go deeper

• The Loan calculator turns an amount, a term and a rate into the monthly payment and the total interest, and shows how much sooner the loan ends if you pay a little extra each month.
• How paying off debt raises your net worth walks through three months of payments and the principal each one keeps.
• The Mortgage calculator estimates the full monthly payment on a home, principal and interest plus property tax, insurance, HOA dues and PMI, with the total interest over the life of the loan.

Where it shows up in Zypper

Zypper shows the principal as the balance it leaves behind. Loans, including mortgages and auto, student and personal loans, connect alongside checking and contribute their balances to the liability side of net worth, computed from every account and charted over time, so the balance falling by each payment's principal is a line rather than a figure on a statement; a loan that cannot be connected is added as a manual account whose balance you set and update yourself. Each loan payment is identified as a recurring group from the pattern of your transactions, with its next expected date and amount. See Net worth tracking, Manual accounts, and Recurring transactions and bill tracking for the details, or get started with Zypper to watch the balance fall.