Flat vs. Reducing Rate Calculator – Which Loan Type Saves You More?
When applying for a loan, you often come across two types of interest calculations: Flat Interest Rate and Reducing Balance Rate. While both methods determine how much interest you pay, they can significantly impact your total repayment amount.
Our Flat vs. Reducing Rate Calculator helps you compare these two interest calculation methods and determine which is more cost-effective for your loan.
What is Flat Interest Rate?
The Flat Interest Rate method calculates interest on the full principal amount throughout the loan tenure. The total interest remains fixed, making the EMIs consistent but often leading to higher overall payments.
Formula for Flat Interest Calculation:
Total Interest = (Loan Amount × Interest Rate × Loan Tenure) / 100
What is Reducing Balance Interest Rate?
The Reducing Balance Rate (also known as Diminishing Rate) calculates interest on the remaining loan balance after each EMI payment. As the principal reduces over time, the interest paid also decreases.
Formula for Reducing Balance Calculation:
EMI = [P × r × (1 + r) ^ n] / [(1 + r) ^ n - 1]
- P = Principal Loan Amount
- r = Monthly Interest Rate (Annual Interest Rate / 12 / 100)
- n = Total Loan Tenure in Months
Flat Rate vs. Reducing Rate – Key Differences
| Feature | Flat Rate | Reducing Balance Rate |
|---|---|---|
| Interest Calculation | On the full loan amount | On the remaining balance |
| EMI | Remains constant | Gradually decreases |
| Total Interest Paid | Higher | Lower |
| Common Usage | Personal loans, car loans | Home loans, business loans |
Example: Flat Rate vs. Reducing Rate Calculation
Suppose you take a loan of ₹5,00,000 at an annual interest rate of 10% for 5 years (60 months).
1. Flat Interest Rate Calculation
Using the formula:
Total Interest = (5,00,000 × 10 × 5) / 100 = ₹2,50,000
Total Repayment = ₹5,00,000 + ₹2,50,000 = ₹7,50,000
EMI = ₹7,50,000 / 60 = ₹12,500 per month
2. Reducing Balance Rate Calculation
Using the EMI formula for Reducing Balance:
EMI = [5,00,000 × (0.10/12) × (1 + 0.10/12)^60] / [(1 + 0.10/12)^60 - 1]
EMI ≈ ₹10,624 (Initially, and reduces over time)
Total Interest Paid = Approx. ₹1,87,000
Total Repayment = ₹5,00,000 + ₹1,87,000 = ₹6,87,000
As you can see, the reducing balance method results in lower total interest payments and a lower overall loan repayment amount.
When to Choose Flat Rate vs. Reducing Rate?
- Choose Flat Rate if you need a short-term loan with fixed EMIs, such as a personal loan or car loan.
- Choose Reducing Rate if you want lower interest costs over time, such as for a home loan, education loan, or business loan.
Frequently Asked Questions (FAQs)
Conclusion
Understanding the difference between Flat Interest Rate and Reducing Balance Rate is crucial when taking a loan. While flat rate loans have fixed EMIs, reducing balance loans save you money in the long run.
Use our Flat vs. Reducing Rate Calculator to determine which method suits your financial goals best and make an informed decision before borrowing.