Personal Loan Terms: What You Need To Know
3-Minute ReadJanuary 30, 2023
If you’re interested in applying for a personal loan, there are several relevant words and phrases you’ll want to understand first. Knowing the lingo can help you understand exactly what you’re getting into and how a personal loan is designed to help. That way, you’re less likely to feel taken advantage of by an unscrupulous loan officer or company.
What Are Personal Loan Terms?
Personal loan definitions and terms are a series of vocabulary often used throughout the process of applying for and receiving a personal loan. Knowing what these words and phrases are and what they mean will help you as you’re looking to apply for a personal loan.
Interest rates are usually expressed as a percentage, and they represent the amount of money that the lender is charging to lend you money. Most lenders will charge you a percentage of the amount borrowed to make up for the risk they’re taking on by loaning you money. Interest rates are usually determined in part by macroeconomic factors and also factors like credit score, credit history and debt-to-income ratio.
In addition to making money by charging interest, some lenders charge additional fees. To take this into account, there is the concept of annual percentage rate or APR, which takes both interest rates and fees into account.
After your initial application is submitted and approved, there is a bit of time until your money is actually deposited. This difference in time is referred to as the funding time.
Like its name suggests, an origination fee is charged by a lender to cover the costs that come from originating and processing the loan. Typically, an origination fee is calculated as a percentage of the loan amount. So on a $200,000 loan, a 1% origination fee will be $2,000.
A promissory note, or loan agreement, is the document that you will sign when closing your loan. The promissory note is the signed and written agreement that actually has the details of the loan. This includes the interest rate, the payment amounts and the consequences for not paying.
Borrowers must decide how long the repayment period of your loan will last. The general rule is that the longer the personal loan term length, the higher the overall cost of the loan. Personal loans typically have a term between 12 and 60 months.
- Long-Term Personal Loans: There are different personal loan term lengths – some borrowers might need a longer term and lower monthly payment. One example of a long-term personal loan might be a debt consolidation loan.
- Short-Term Personal Loans: Short-term personal loans are typically emergency loans. Payday loans are an example of a short-term personal loan, though borrowers typically should try to avoid these, because they come with very high interest rates and fees.
Sometimes lenders offer extra incentives, like discounts for applying online. These types of extra incentives can provide additional benefits and might influence your decision to choose one loan over another.
Late Payment Penalty
Like credit cards and most other types of financial transactions, making a late payment on a personal loan will generally come with a late payment penalty. This late payment penalty could include a fee, a negative mark on your credit or both.
Some lenders also include a prepayment penalty in their personal loan terms because lenders make their money over the course of the term of the loan. So if you pay the loan off early, they won’t make as much money as they were expecting. To make up the difference, a prepayment penalty may be assessed.
Other Terms That Apply To Personal Loans
Here are some other personal loan terms that you should be aware of when applying for a personal loan.
Principal And Interest
Principal is the amount of the loan that you borrow – the actual cash that you receive when the personal loan is funded. Interest is essentially the cost of getting the loan, paid to the lender. A portion of your monthly payment goes toward the principal and another portion goes toward interest. Some personal loans may allow you to pay interest-only for a period of time. This lowers your monthly payment amount but increases the total amount of money you have to repay.
Collateral refers to any security that backs the loan. In a mortgage, typically the collateral is the home that the mortgage is for. For an auto loan, the car would be the collateral. Many personal loans do not require collateral.
Secured Vs. Unsecured
A secured loan is one that is backed by some sort of collateral. To continue with the example of a home mortgage, if you fail to adhere to the terms of the loan, you may forfeit your collateral, meaning you could lose your home. An unsecured loan is one that is not backed by any collateral.
If you don’t pay off an unsecured loan, you will not lose any collateral, but your credit may be damaged and your lender could send your loan to a collection agency. Be sure to discuss with your lender the right loan for your situation.
Fixed Vs. Variable
With a fixed loan, your interest and monthly payments are the same throughout the term of the loan. In a 5-year fixed personal loan, you’ll pay the same amount in each of the 60 monthly payments. With a variable loan, the interest rate can change, through either macroeconomic factors or based on how much of the loan you use. This means that your payment amounts may be different each month.
Installments Vs. Revolving Credit
An installment loan is a fixed amount of borrowed money. Mortgages and many personal loans are examples of installment loans. With an installment loan, you receive all of the money at closing, and then pay it back over the term of the loan.
With revolving credit, you have access to a particular amount (called the “line”), but you don’t have to use all of your line at once. You can use only however much you need, and you only pay interest based on the amount that you have actually borrowed. Home equity lines of credit (HELOCs) and credit cards are types of revolving credit.
Learn The Lingo Of Loans
Hopefully these glossary terms and explanations of different terms will help you navigate the world of personal loans. And if you’re ready, you can apply for a personal loan through Rocket Loans® now.
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