Understanding Personal Loan Terminology
When you need money or make a large purchase, the odds are you will need to secure a loan. While getting one isn’t rocket science, it can feel a bit overwhelming. There are several words that could be confusing or make you feel like you are reading in a foreign language.
Don’t fret! We’ve compiled a list of the top 20 loan-related words so you can be knowledgeable and feel more prepared when setting out to get your loan.
- Principal
The original amount of money you borrow, not including interest or fees.
- Interest Rate
The percentage the lender charges you for borrowing money. It can be fixed (stays the same) or variable (can change).
- APR (Annual Percentage Rate)
The total yearly cost of borrowing money, including interest and most fees. It gives a more complete picture than the interest rate alone.
- Term
The length of time you have to repay the loan, usually stated in months or years (e.g., 36 months or 5 years).
- Loan Agreement
A legal document that outlines the terms and conditions of the loan between the borrower and lender.
- Secured Loan
A loan backed by collateral (like a house or car). If you don’t repay, the lender can take the collateral that you agreed to use (known as your asset).
- Unsecured Loan
A loan not backed by collateral. Approval is usually based on your credit score and income.
- Collateral
Property or assets pledged by a borrower to secure a loan. This is used by the lender to recover losses if the loan is not repaid.
- Cosigner
A person who agrees to repay the loan if the borrower can’t. This helps borrowers with lower credit get approved.
- Amortization
The process of spreading out loan payments over time. Each payment reduces both interest and principal.
- Prepayment
Paying off a loan (or part of it) before the due date. Some loans have prepayment penalties, which means you pay a fee for paying early.
- Default
Failing to repay a loan according to the terms. This can damage your credit and lead to legal action.
- Delinquency
A loan payment that is late but hasn’t yet gone into default.
- Origination Fee
A one-time charge by the lender for processing a new loan. It’s usually a percentage of the loan amount.
- Underwriting
The process lenders use to evaluate a borrower’s creditworthiness and risk level.
- Debt-to-Income Ratio (DTI)
A comparison of your monthly debt payments to your monthly income. Lenders use this to assess your ability to repay.
- Refinancing
Replacing an existing loan with a new one, usually to get a better interest rate or change the loan term.
- Deferment
A temporary pause on loan payments, often used with student loans.
- Forbearance
A temporary reduction or suspension of loan payments, typically granted during financial hardship.
- Balloon Payment
A large, one-time payment at the end of a loan term, often used in certain types of short-term loans.