NISM-Series-X-A: Investment Adviser (Level 1) · Debt Management and Loans

Loan Pricing, Interest Rates and EMI Calculation

Updated 11 October 2026 · Fact-checked

Loan pricing is how a lender sets the interest rate on a loan. The EMI is the fixed monthly payment that repays both principal and interest over the tenure. EMI = P × r × (1+r)^n ÷ [(1+r)^n − 1], where r is the monthly rate and n the number of months.

Understand Loan Pricing, Interest Rates and EMI Calculation

A loan has a principal (the amount borrowed), an interest rate (the price of borrowing) and a tenure (the time to repay). Most retail loans in India are repaid through an EMI (equated monthly instalment). The EMI stays the same each month, but its split between interest and principal changes.

The rate can be fixed or floating. A fixed rate stays the same for the agreed period. A floating rate moves with a benchmark. When the benchmark rises, your rate rises. When it falls, your rate falls. Floating loans carry interest rate risk for the borrower. Fixed loans give certainty, but the fixed rate is often set higher at the start.

Benchmarks matter for exams. A repo-linked lending rate (RLLR) is tied to the RBI repo rate, an external benchmark. Lenders add a spread to it. When the repo rate changes, the loan rate changes and passes through faster. MCLR (marginal cost of funds based lending rate) is an internal benchmark set by each bank from its own cost of funds. It is reset at intervals, so changes reach you only at the reset date. Lenders add a spread on top of MCLR too.

Loans are repaid by amortisation. In each EMI, interest is charged on the outstanding balance. The rest of the EMI reduces principal. Early on, the balance is high, so most of the EMI is interest. Later the balance is lower, so more of the EMI goes to principal.

Tenure changes total cost. A longer tenure lowers the EMI but raises the total interest paid, because the balance stays outstanding for longer. A shorter tenure raises the EMI but cuts total interest.

Key formulas to remember

EMI formula: EMI = P × r × (1+r)^n ÷ [(1+r)^n − 1]; P = loan amount, r = annual rate ÷ 12 (as a decimal), n = tenure in months.
Monthly rate: r = annual rate ÷ 12; Convert 12% p.a. to 0.01 per month. Convert years to months for n.
Interest part of an instalment: Interest = opening balance × r; Use the balance at the start of that month.
Principal part of an instalment: Principal repaid = EMI − interest; Closing balance = opening balance − principal repaid.
Total interest paid: Total interest = (EMI × n) − P; Assumes no prepayment and no change in rate.
Floating rate structure: Lending rate = benchmark + spread; Benchmark can be the repo rate (RLLR) or the bank's MCLR.

How to solve Loan Pricing, Interest Rates and EMI Calculation questions

Use this method for any question on loan rates, EMI or amortisation.

1Read what is asked: EMI, interest part, principal part, balance, total interest or rate type.
2Write down P, annual rate and tenure. Check whether the tenure is in years or months.
3Convert to monthly terms: r = annual rate ÷ 12 and n = years × 12.
4If the question asks for an EMI, apply the EMI formula, or use the figures given in the question.
5For a given month, interest = opening balance × r. Principal = EMI − interest. New balance = opening balance − principal.
6For total interest, use EMI × n − P.
7For rate-type questions, identify the benchmark: repo means external and quick pass-through. MCLR means internal and reset at intervals.
8Check that your answer is sensible: interest in month 1 is the highest, and a longer tenure means a lower EMI but higher total interest.

Quickest way: Estimate first, then eliminate options

When to use it: Use this when the options are far apart and the question is about interest or balance after one month.

For month 1, compute interest as P × r directly. It needs no EMI formula.
If the EMI is given, subtract month-1 interest to get principal repaid.
For tenure questions, skip the calculation. Longer tenure means lower EMI and higher total interest.
For rate questions, match the keyword: repo means external benchmark, MCLR means bank's own cost of funds.
Remove options that break these rules, then calculate only if two options remain.

Common mistakes in Loan Pricing, Interest Rates and EMI Calculation

Using the annual rate and the number of years directly in the EMI formula.
The formula looks like a simple interest formula, so students skip conversion.
Fix: Always use r = annual rate ÷ 12 and n in months.
Charging interest on the original principal every month.
Students confuse a reducing balance loan with a flat-rate loan.
Fix: Charge interest on the opening balance of that month. The balance falls as principal is repaid.
Thinking the interest and principal parts of the EMI stay constant.
The EMI amount itself is constant, so students assume its split is constant.
Fix: Remember that interest share is highest at the start and falls over time, while principal share rises.
Assuming a longer tenure makes the loan cheaper.
The lower EMI looks attractive.
Fix: Compare total interest. A longer tenure lowers the EMI but raises total interest paid.
Mixing up MCLR and repo-linked rates.
Both are called benchmarks and both have a spread added.
Fix: Repo-linked is tied to the RBI policy repo rate, an external benchmark. MCLR is calculated by the bank from its own cost of funds, an internal benchmark with periodic reset.
Saying a floating rate is always lower than a fixed rate.
Students overgeneralise from periods when rates were falling.
Fix: A floating rate can rise or fall with the benchmark. The borrower bears the rate risk.

Worked examples

Example 1

A borrower takes a loan of ₹12,00,000 at 12% p.a. A monthly EMI of ₹26,693 is charged for the first month. Find the interest and principal parts of the first EMI and the balance after the first EMI.

Show the solution

Monthly rate r = 12% ÷ 12 = 1% = 0.01.
Interest for month 1 = ₹12,00,000 × 0.01 = ₹12,000.
Principal repaid = ₹26,693 − ₹12,000 = ₹14,693.
Closing balance = ₹12,00,000 − ₹14,693 = ₹11,85,307.

Answer: Interest ₹12,000, principal ₹14,693, balance ₹11,85,307.

Example 2

A loan of ₹10,00,000 is repaid over 10 years at a fixed EMI of ₹15,000 per month. What is the total interest paid?

Show the solution

Number of instalments n = 10 × 12 = 120.
Total repaid = ₹15,000 × 120 = ₹18,00,000.
Total interest = total repaid − principal = ₹18,00,000 − ₹10,00,000 = ₹8,00,000.

Answer: ₹8,00,000

Exam tips

Check units first. Most wrong answers come from using years instead of months, or an annual rate instead of a monthly rate.
Expect concept questions on repo-linked versus MCLR. Match 'external benchmark' to repo and 'bank's own cost of funds' to MCLR.
Questions on tenure usually test direction: longer tenure means lower EMI and higher total interest.
In caselets, if the EMI is given, you only need interest = balance × monthly rate. Do not recompute the EMI.
Negative marking is 25% of the marks on the question. On a 2-mark caselet question, avoid guessing unless you can remove two options.

Practice questions from Debt Management and Loans

Loan Pricing, Interest Rates and EMI Calculation in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

CS ProfessionalLoan Amortisation and EMI Calculation

Loan Pricing, Interest Rates and EMI Calculation: frequently asked questions

How do I calculate EMI?

Use EMI = P × r × (1+r)^n ÷ [(1+r)^n − 1]. Here r is the annual rate ÷ 12 as a decimal, and n is the tenure in months. In an exam the EMI is usually given or the options let you check by approximation.

What is the difference between MCLR and a repo-linked lending rate?

A repo-linked rate is tied to the RBI repo rate, which is an external benchmark. MCLR is set by each bank using its own cost of funds, so it is an internal benchmark. Both have a spread added by the lender.

Is a fixed or floating rate better for a home loan?

Neither is always better. A fixed rate gives certainty on the rate for the agreed period. A floating rate moves with the benchmark, so you gain when rates fall and lose when they rise.

What is an amortisation schedule?

It is a table that shows each EMI split into interest and principal, along with the closing balance. Interest is highest in the early months and falls over time as the balance reduces.