Calculating interest on a business loan depends on the type of loan, the interest rate, and how the payments are structured. Here’s a clear step-by-step breakdown to help you calculate it correctly.
1. Know Your Loan Terms
Before you calculate, gather these details:
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Principal: The amount borrowed
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Interest Rate: Usually annual (APR)
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Term: How long the loan lasts
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Payment Frequency: Monthly, quarterly, etc.
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Type of Interest: Simple or amortized (compound)
2. Simple Interest Loan
This is straightforward. Use the formula:
Interest = Principal × Rate × Time
Where:
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Principal = original loan amount
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Rate = annual interest rate (as a decimal)
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Time = loan term in years
Example:
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Loan: $50,000
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Interest Rate: 6% annual
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Term: 3 years
Interest = $50,000 × 0.06 × 3 = $9,000
So you’ll pay $9,000 in interest over the life of the loan.
3. Amortized Loan (Most Common for Business Loans)
Amortized loans have monthly payments that include both principal and interest. Interest is higher at the start and gradually declines.
Use this formula to calculate the monthly payment:
M = P × [r(1 + r)^n] / [(1 + r)^n – 1]
Where:
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M = monthly payment
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P = loan principal
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r = monthly interest rate (annual rate ÷ 12)
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n = total number of payments (months)
Example:
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Loan: $100,000
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APR: 8% → monthly rate = 0.08 / 12 = 0.006667
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Term: 5 years → 60 months
M = 100,000 × [0.006667(1 + 0.006667)^60] / [(1 + 0.006667)^60 – 1] ≈ $2,027.64
To find total interest, multiply the monthly payment by the number of payments, then subtract the principal:
Total Paid = $2,027.64 × 60 = $121,658.40
Interest = $121,658.40 – $100,000 = $21,658.40
4. Interest-Only Loan
You pay interest each period, and the full principal at the end.
Monthly Interest = Principal × (Annual Rate / 12)
If the loan is $250,000 at 7%:
Monthly Interest = $250,000 × 0.07 / 12 = $1,458.33
Over a year: $1,458.33 × 12 = $17,500 in interest
5. Variable Interest Loans
If the rate changes over time, you’ll need to recalculate payments based on the new rate whenever it adjusts. Usually, lenders notify you in advance.