The content and opinions provided on this site have not been provided or commissioned by any issuer of the financial products and/or services appearing on this site. The content and opinions have not been reviewed, approved or otherwise endorsed by an issuer. Offers may be subject to change without notice. For more information, please read our full disclaimer.
A loan means borrowing money from a source such as a bank, credit union, online lender, or even someone you know, like a friend or family member. The agreement requires you to pay back the borrowed amount. When borrowing from a financial institution, you’ll typically pay interest—the cost of borrowing money—and, depending on the loan terms, you might also encounter extra charges, like an origination fee.
While there are many different types of loans depending on how you intend to use the money, you will find they have similar features.
Why Might I Need a Loan?
Loans serve as a source of cash for individuals, companies, and governments. They can be obtained for various purposes, such as car loans, home loans (mortgages), student loans, or through credit cards (lines of credit). Loan applications are common for debt consolidation, business ventures, home renovations, or investments.
Parts of a Loan
As you begin your journey into the world of borrowing and loans, the verbiage can seem foreign and intimidating. With a little research to understand the lingo of loans, you can begin to navigate the options available to you.
Principal
When you borrow money, the principal is the initial amount you receive. As you make payments, a portion goes towards paying interest, and the rest is used to reduce the principal balance.
Typically, your minimum monthly payment covers the interest and a part of the principal. By consistently making extra payments, lenders usually apply that money to further decrease the principal. This strategy can shorten your repayment time and lower the total interest paid, unless there are early repayment penalties. Be sure to review all terms and conditions carefully to understand any potential penalties before taking out a loan.
Interest Rate & APR
When you apply for a loan, your lender will charge you money to borrow from them. This charge is called interest. Interest rates will vary depending on:
- Your credit score and credit history
- If you choose to have your interest set at a fixed interest rate (meaning it doesn’t change while you’re repaying the loan) or variable interest rate (which means your loan will have an interest rate range, and your lender may change the rate while you are repaying the loan)
- The time you need to repay the loan (longer repayment periods are riskier for the lender which may result in a higher interest rate than shorter time periods)
- The type of loan
Often the annual percentage rate (APR) is discussed interchangeably with interest rate. Know that interest rate and APR are not the same. The APR is the annual cost over the life of the loan that can include the interest rate, as well as upfront fees, such as application fees, closing costs and origination fees. These fees help cover the lender’s cost of processing your application, verifying your income, and sometimes even marketing other products and services and are typically added to the principal of the loan.
Many lenders will use APRs to advertise their loans, so be on the lookout for competitive terms to find the loan that is best for you. Be mindful that advertised APR’s may not include those additional fees, so be sure to take that into consideration when shopping for loans.
Loan Term
Your loan term is the length of your loan, or the amount of time you have to repay your loan. This may also be called “term length.” It is dependent upon your creditworthiness and the repayment terms agreed upon. Longer loan terms typically have smaller payments but will cause more interest to be charged over the duration of the loan resulting in a more expensive loan.
Loan Payment
Also called installment payments, this is the payment you make to your lender at regular intervals over a set period of time. Most commonly made on a monthly basis, it is typically a fixed amount (but can vary depending on your loan type). And keep in mind, if you have a revolving credit account, like a credit card balance, your monthly payments may vary from month-to-month.
Some loans have fees that can be added to your agreed upon monthly payment when triggered by an event. You may be charged a late payment fee on top of your agreed upon payment if you make a late payment or if your check is returned due to insufficient funds (not enough money). You may also be charged a prepayment penalty (although rare) if you pay off your loan early. Some lenders choose to waive prepayment fees to stay competitive. Make sure you understand your particular loan terms, to know what fees may be included.
Build credit. Build dreams. All Credit Scores are Welcome! It's time to take control of your credit score. Don't let your credit be an obstacle to the possibility of a great personal loan offer. See website for details.
- Reports to all 3 credit bureaus
- Offers 4 credit builder plans
- No hard credit inquiry
Types of Loans
Secured Loans
Secured loans use physical assets like a home or car as collateral to help guarantee the repayment of the loan. This means that if you default (or fail to meet your legal obligations of the loan—usually by not making a payment), your lender can take back the collateral to help repay the outstanding balance. These kinds of loans are less risky for lenders and usually have lower interest rates, especially for those with excellent credit.
Unsecured Loans
Unsecured loans do not have collateral or declared physical property to seize in the case of default. Common unsecured loans are credit cards, personal loans, and payday loans. This makes the loans riskier for the lender, thus making loan requirements stricter and interest rates tend to be higher.
Revolving Loans or Revolving Credit
A revolving loan (also known as an open-end loan) gives you the freedom to borrow again and again within a given credit limit. If you have a credit card or a line of credit, you are allowed to borrow time and time again as long you stay within the credit restrictions set by the card or lender. These kinds of revolving loans usually have credit limits that give you a specific dollar amount you can borrow from. Each time you pay for something with your credit card or use money from you line of credit, your available credit decreases by the amount of money you just used. Paying off your credit card allows you to borrow up to the credit limit once again.
Term Loans
Term loans, or sometimes known as a closed-end loan, is money you borrow with the agreement that you will repay it by a certain date. Common term loans are a student loan, an auto loan, or a mortgage. Term loans require you to provide documents verifying your income, creditworthiness and approval from your lender for the specific loan terms. As you work to repay your closed-end loan, your loan balance will decrease.
