What is EMI and How to Calculate it?

Equated Monthly Installments or EMIs play an important role in the credit and lending sector. They help individuals break down major expenses(purchasing a car, home, or even a smartphone) into manageable monthly payments. Understanding what EMIs are and how they are calculated using an EMI calculator assists people in managing their finances effectively. In the article below, we will understand the in-depth yet simplified meaning of EMI, how they are calculated using EMI calculators, and the factors that affect your EMI amount.

What is an EMI?

EMI is a fixed sum of money that the borrower pays at a specified date to clear off the loan amount. It is the sum of the principal amount that was borrowed and the interest that is to be paid on that principal. This ensures that, at the end of the loan tenure, the complete loan amount is paid along with the interest payment. The EMI system allows people to make large purchases without worrying about paying the entire amount upfront.

How to Calculate EMI

Now that we know the EMI meaning, let us understand how you can calculate your EMI amount by including your loan amount, interest rate, and the tenure of the loan. The formula used to calculate EMI is:

EMI = P * r*(1+r)^n/(1+r)^n -1

In this formula, P is the principal loan amount, r is the monthly interest rate (annual interest rate divided by 12) and n is the loan tenure measured in months.

Let us use this formula as an example to get a better idea of EMI calculations. Assuming that a person took out a loan (P) of Rs. 5,00,000, at the annual interest rate of 10% (monthly rate = 10%/12, that is 0.0083), for a tenure of 3 years (3*12=36 months = 36 installments).

After we put these values in the above formula, we’ll get the monthly EMI value of Rs. 16124. This is the amount that the person would have to pay to the lender for the next 3 years to pay off the loan. This means that there 3 factors that affect your EMI:

Principal amount: The larger the amount, the higher the EMI.
Interest rate: The higher the rate, the more the loan amount.
Loan tenure: Longer tenure is equal to lower EMIs but the total amount of interest rate increases.
Prepayment and Part-payment: Some lenders allow pre-payment or partial payment of loans. This reduces the principal amount and consequently lowers the EMI or the loan tenure.

Calculating EMIs with EMI Calculators

To avoid the above time-consuming and complex calculations, you can find out your EMI amount using EMI calculators. These calculators simplify the calculation process by allowing individuals to input the basic details like principal amount, interest rate, and loan tenure, and find out their EMI amount with the click of a button.

EMI calculators are highly beneficial as they save time and allow you to calculate EMI amounts using different interest rates and amounts. They also assist in loan planning by allowing you to identify the most affordable EMI amount.

Types of Loans and their EMIs

Various types of loans have different EMI structures. Home loans generally have longer tenure (up to 30 years), and lower interest rates compared to other loans. Car loans typically have shorter tenures as compared to home loans (3-7 years) with slightly higher interest rates. Personal loans on the other hand have high interest rates and shorter repayment tenure.

Importance of EMI in Financial Planning

The concept of EMIs has helped several people make big purchases without affecting their savings. Other important benefits of EMIs are mentioned below

Affordable Repayment

Repayment has become more convenient as EMIs allow people to spread their payments over several months or years. This in turn allows people to maintain their lifestyle without having to worry about making large payments.

Access to Credit

EMIs make credit accessible across income levels without disturbing savings. Predictable EMI schedules help borrowers plan repayments and manage finances effectively.

Conclusion

EMIs are extremely helpful to individuals who want to handle larger purchases without disturbing their savings. However, before taking out a loan, understanding the meaning and the calculation behind it is important. Performing personal calculations of your EMI amount can help you pre-plan the payment of the loan. By making use of EMI calculators, borrowers can make informed decisions about their EMI amounts that align with their financial capabilities.