What does "amortization" refer to in loan repayment?

Amortization refers to the gradual repayment of a loan through regular payments that include both principal and interest. This process is structured so that each payment reduces the outstanding principal balance of the loan while also covering the interest expense for that period.

A significant aspect of amortization is that, over time, the portion of each payment that goes toward the principal increases, while the portion that covers interest decreases. This creates a predictable schedule for borrowers, helping them manage their finances effectively as they know exactly how much they need to pay over the life of the loan. This approach helps borrowers strategize their budget and prepare for eventual loan payoff, making it fundamental in the context of real estate financing, mortgages, and other types of loans.

The other options describe different financial scenarios or concepts not related to amortization. For instance, repaying a loan in a lump sum does not involve amortization, as it represents a one-time payment rather than a sequence of regular installments. Similarly, applying additional payments towards interest or merely accumulating interest on an unpaid balance does not capture the essence of amortization, which fundamentally focuses on the systematic reduction of both principal and interest through periodic payments.