There are two reasons why extra payments reduce the time it takes to pay off a loan. First, it automatically increases the amount that goes to the principal balance each month. Also, it reduces future interest payments because the remaining principal balance will be smaller at each time period. Let’s look at each of these in more detail. First, the principal payment automatically increases. The first payment of $500 in our example paid $300 towards the principal. If you increase the monthly payment to $600, that extra $100 goes straight to the principal balance, so now $400 goes to pay down the principal balance. This is repeated each month. The faster the principal balance goes down, the faster the loan will be paid off in full. Also, as the remaining principal balance goes down faster, the future interest payments will also be less because the interest payments are based on the remaining principal balance.