How to Calculate Loan Interest Step by Step

Let’s use a simple example to show exactly how loan interest is calculated.

Step 1: Loan amount

Assume you borrow $10,000.

Assume the annual interest rate is 5%.

Assume the loan is for 1 year.

Interest = Loan Amount × Interest Rate × Time
Interest = $10,000 × 5% × 1
Interest = $500

In this simple example, the total interest cost for one year is $500. If the loan lasts longer, the total interest usually becomes higher.

To understand the full payment, read our loan payment formula explained guide. You can also compare repayment periods in our loan term vs interest cost article.