Many loans, such as mortgages, auto loans, and personal loans, charge interest on the remaining principal balance — the original amount you borrowed minus any payments you’ve applied to it. In the early years of loans, especially mortgages, most monthly payments largely cover interest rather than reducing the principal.
Principal curtailment is a strategy where you make extra payments above your scheduled installments and instruct your lender to apply them directly to the principal. Unlike prepaying a future installment, these payments shrink your principal faster, lowering the base amount that interest accrues on, which saves money over time.
Why Principal Curtailment Matters
Interest on loans is calculated as a percentage of your current principal balance. By lowering that balance earlier through principal curtailments, less interest accumulates monthly, allowing more of your regular payment to go toward reducing principal in subsequent months. This accelerates loan payoff and reduces total interest paid.
Example: How an Extra $100 Monthly Payment Impacts a Mortgage
Consider a $300,000, 30-year fixed mortgage at 6% interest. The standard monthly principal and interest payment is about $1,798.65. Paying an additional $100 each month toward principal can reduce the loan term by nearly 5 years and save over $60,000 in interest.
| Scenario | Monthly Payment | Loan Term | Total Interest Paid | Interest Savings |
|---|---|---|---|---|
| Standard Payment | $1,798.65 | 30 years | $347,514 | $0 |
| With Extra $100 | $1,898.65 | ~25 years, 3 months | $285,158 | $62,356 |
How to Make Principal Curtailment Payments Correctly
- Confirm lender policies: Check your loan agreement or contact your lender to learn about any prepayment penalties or specific instructions.
- Specify your payment intent: When submitting extra money, indicate “apply to principal only” or look for a dedicated “extra principal payment” option online.
- Verify application: Review your loan statement after payment to ensure the extra amount was applied to principal, not future payments.
What to Consider Before Making Principal Curtailments
- Prioritize paying off higher-interest debts first, like credit cards, as that yields greater financial benefit.
- Maintain an emergency fund of 3–6 months of expenses before increasing loan payments.
- Consider the opportunity cost; sometimes investing extra funds might yield higher returns than loan interest saved.
Additional Resources
Learn more about related topics like Prepayment Penalties and Partial Prepayment to understand potential lender fees and other ways to reduce your loan balance.
For official guidance on mortgage prepayment, visit the Consumer Financial Protection Bureau’s resource page: Mortgage Prepayments.
By applying principal curtailment thoughtfully, you can reduce your debt faster and save significant money over the life of your loan.
