How is EMI calculated per month?

Decoding Your Monthly EMI: A Simple Explanation

Every month, millions of people around the world make loan repayments, often in the form of Equated Monthly Installments (EMIs). Understanding how these EMIs are calculated isn’t just about knowing the final number; it’s about gaining financial clarity and making informed borrowing decisions. This article breaks down the process, revealing the simple yet powerful formula behind those monthly payments.

The core principle behind EMI calculation lies in amortizing the loan – paying it back gradually over time, with each payment chipping away at both the principal amount borrowed and the accumulated interest. This isn’t a simple sum; it involves a formula that considers three key variables:

• Principal Loan Amount (P): This is the total amount of money you borrow. The larger the principal, the higher your monthly EMI.

• Monthly Interest Rate (r): This is your annual interest rate, divided by 12. A higher interest rate means a larger portion of your EMI goes towards interest, resulting in a higher overall payment. It’s crucial to understand that this is the monthly rate, not the annual rate.

• Loan Tenure (n): This is the total number of months you’ll take to repay the loan. A longer loan tenure lowers your monthly EMI, but you’ll end up paying more interest overall. A shorter tenure increases your monthly payment but reduces the total interest paid.

The Formula:

While the precise mathematical derivation is complex, the formula for calculating EMI is relatively straightforward:

EMI = [P x r x (1+r)^n] / [(1+r)^n-1]

Where:

• P = Principal Loan Amount
• r = Monthly Interest Rate (Annual Interest Rate / 12)
• n = Loan Tenure in Months

Let’s break it down with an example:

Suppose you borrow $10,000 (P) at an annual interest rate of 12% (Annual Interest Rate), for a period of 3 years (Loan Tenure).

1. Calculate the monthly interest rate: 12% per year / 12 months = 1% per month (r = 0.01)
2. Calculate the loan tenure in months: 3 years x 12 months/year = 36 months (n = 36)
3. Apply the formula:

EMI = [10000 x 0.01 x (1 + 0.01)^36] / [(1 + 0.01)^36 – 1]

EMI ≈ $332.14

Therefore, your monthly EMI would be approximately $332.14.

Key Takeaways:

Understanding the EMI calculation empowers you to:

• Compare loan offers: By calculating the EMI for different loan options, you can easily compare the cost and affordability of each.
• Negotiate better terms: Armed with this knowledge, you can better negotiate interest rates and loan tenures with lenders.
• Plan your finances: Knowing your precise monthly payment allows for better budgeting and financial planning.

While online EMI calculators readily provide these calculations, understanding the underlying formula provides a deeper grasp of your loan’s financial implications. This empowers you to make more informed decisions about borrowing and managing your debt responsibly.