Equated monthly instalment (EMI)

Did you know that calculating EMI can be so easy!

by Shruti Agarwal on Basic Finance, Investing Basics
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It’s an EMI world.

Formerly, limited range of products, say personal loans or home loans and alike loan products were available on EMI. But now the scenario has completely changed. E-commerce world has now so much to offer.

From household appliances to electronic gadgets, it’s all online. Apart from this radical change, one of the significant effects is on the affordability of products through EMI option. Merchants now offer reasonable installment amounts, which defers the lump sum paid and breaks it into a number of installments over a certain period.

Simple, isn’t it?

But do you know what does EMI means? What does it constitute? What if you want to calculate the EMI of your loan product?

Let us answer all these questions here and make it both sound and read simple for you.

Basic Understanding:-

Let us first understand the acronym “EMI” in simple terms. EMI stands for equated monthly installment. Equated means same in value, monthly means every month, and installment means the amount due.

Hence, an Equated Monthly Installment (EMI) means a certain amount to be paid by the borrower to the lender for the predetermined period on a monthly basis.

EMI depends on three components – loan amount, a tenure of loan and rate of interest. The number of EMIs you need to pay and the number of installments is inversely proportional to each other.

For example – Mr. X wants to purchase a mobile phone online worth Rs. 15000.00 wherein the EMI mentioned is Rs. 1400 per month. In case Mr. X purchases it on EMI, then he will be required to pay Rs. 1400 per month for approximately 11 months (Rs. 15000/ 1400 = 10.71 approx ~ 11 months). This is how EMI works in this case.

Basically, EMI is a contemporary version of the loan, wherein the pinch of lump sum payment is deferred and is broken down into parts to be paid over a period of time.

Principal and Interest Component:-

Though the amount of EMI is constant throughout the term contract, it comprises of the unequal combination of principal and interest.

For example Mr. X takes a personal loan of Rs. 5,00,000/- for a period of 3 years with an interest of say, 12% p.a. This formula for calculating EMI is:

EMI =     ( P * r * (1+r) n

           [(1+r) n – 1]

Where P = Principal amount; r = rate of interest, n = Tenure

Principal (P) = Rs. 5,00,000.00

Interest (r) = 12%/ 12 = 0.01

Tenure = 3 years or 36 months

 EMI =     (500000 * 0.01 * (1+0.01) 36

   [(1+0.001)36 – 1]

                                                                   =     Rs. 16,598(approx)[1]

Hence the total amount payable will be Rs.16,598*36= Rs  5,97,528 wherein the interest component is Rs. (597528-500000 =Rs 97,528 ).

In this manner, the total amount of loan is repaid inclusive of the basic amount i.e. principal and the interest component.

Understanding the calculation of EMI via excel sheet:-

It very simple to calculate EMI in the excel sheet following the below steps, as shown in the snapshots taken:

Example: In the following example, we will calculate the amortization schedule of loan repayment through excel sheet along with the formulas mentioned below:

Equated monthly instalment (EMI)
When you type PMT in the excel sheet with the open bracket, as mentioned below, the following formula appears.

Equated monthly instalment (EMI)

By feeding the information in the formula, as mentioned, you derive the monthly installment payable. In this case it amounts to Rs. 7230.48 ~ Rs. 7230.00

Equated monthly instalment (EMI)

After we get monthly installment amount, we now calculate our amortization table, which signifies the schedule of payments to be done by the borrower.

Equated monthly instalment (EMI)

In the table given above, let us first understand the columns mentioned:-

(A) – Number of payments to be made, which is 36 months or 3 years in this case. The total number of months are taken herein, as we are calculating the monthly installment payment amount.

(B) – Monthly installment, as calculated above, which remains constant through the tenure.

(C) – The interest component is calculated as below. The highlighted portions show the formula placed in excel sheet.

Equated monthly instalment (EMI)

(D) – This column is the principal component which is calculated as shown below – [(B) – (C)], as highlighted below:-

Equated monthly instalment (EMI)

(E) – This column is the balance outstanding which is calculated as shown below – [(E) – (D)], as highlighted below:-

Equated monthly instalment (EMI)

By following the above steps you will be able to calculate the entire series of payments to be made by you in the period of 36 months.

Also, you will see that in the 36th month, the balance left is copied to the principal column and the difference between monthly installment and the principal is mentioned in the interest column. In this way, all dues are settled at the end of the contracted period.

To know EMI calculations in excel in  more details: you can watch the video below:

Takeaway – EMI online calculator:

Apart from the excel calculation, there are many online sites that help you calculate EMI by merely entering the amount of the loan product.

For example: Click on this link, the following window will appear on the screen, wherein you need to enter the loan amount, tenure and the rate of interest.

Equated monthly instalment (EMI)

Source: https://www.hdfc.com/emi-calculator

Let us take the previous example, in which Mr. X takes a personal loan of Rs. 5,00,000 for a period of 3 years with an interest of say, 12% p.a. The monthly EMI through the above calculator will be:

Equated monthly instalment (EMI)

Source: https://www.hdfc.com/emi-calculator

Bottomline:

Now we can say- Simple, it is!

By this time, you already know what an EMI is, constituents of EMI, practical approach to EMI calculation in excel as well as online. Apart from these, you must also know that the amount of EMI may differ under two similar circumstances. This may be due to the system of calculation followed – flat-rate system or the reducing balance system.

So now you are all set to choose the best EMI option that will fit into your budget and make a predetermined schedule of expenses basis the schedule of payments learned above.

In the end, let me ask you a simple question “Is EMI option a healthy affair”?

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Happy Learning!

[1] Note: The amount of EMI also depends as to whether it is calculated under flat system or reducing balance system.

Disclaimer

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