Understanding loans can feel like learning a new language. Whether you’re applying for a mortgage, personal loan, or student loan, knowing the basic terms can help you make informed decisions. Here’s a quick glossary of essential loan terms—clearly explained.
1. Principal
The principal is the original amount you borrow from a lender. For example, if you take out a $10,000 loan, your principal is $10,000.
2. Interest
Interest is the cost of borrowing money, expressed as a percentage of the principal. You pay this amount on top of the original loan.
3. Interest Rate
The interest rate is the percentage charged by the lender on the outstanding loan amount. It can be:
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Fixed – stays the same throughout the loan term
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Variable – changes based on market rates
4. APR (Annual Percentage Rate)
The APR includes the interest rate plus any fees (like origination fees), giving you the true cost of borrowing over a year.
5. Loan Term
The loan term is the length of time you have to repay the loan—usually stated in months or years (e.g., 60 months or 5 years).
6. Monthly Payment
This is the amount you must pay each month, including both principal and interest. It may also include taxes or insurance (especially for mortgages).
7. Amortization
Amortization is the process of paying off a loan in regular installments over time. Early payments mostly go toward interest; later ones go more toward the principal.
8. Amortization Schedule
A detailed table showing how each loan payment is split between interest and principal over time. It helps you see how much you owe and when.
9. Prepayment
Paying off all or part of your loan before it’s due. Some loans charge prepayment penalties, so always check your terms.
10. Default
Failing to make loan payments as agreed. Defaulting can harm your credit score and may lead to legal or collection action.
11. Collateral
An asset (like a car or home) used to secure a loan. If you don’t repay, the lender can take the collateral.
12. Cosigner
A person who agrees to repay the loan if you can’t. Having a cosigner may help you qualify for better loan terms.
13. Deferment / Forbearance
Temporary pauses on loan payments. Interest may still accrue, especially with forbearance.
14. Grace Period
A short window after disbursement or after graduation (for student loans) where you’re not required to make payments.
15. Capitalization
When unpaid interest is added to your principal balance, increasing the total amount you owe.
Final Thoughts
The more you understand these loan terms, the more control you have over your financial choices. Whether you’re taking out your first loan or managing multiple debts, knowing the language helps you avoid surprises and make smarter decisions.