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What is a Loan?

Loans can be a complex subject to dive into. The term is referred to as a way to borrow money from another party in order to be paid back at a future date. Most often, the repayment of a loan will also mean paying interest. Interest is added to the initial amount borrowed from the lender. Loans can be used for a multitude of reasons. For instance, a one-time purchase, or a line of credit with a set limit. Throughout this loan education article, we will be looking at the building blocks of loans, types of interest loans can involve, and the different kinds of loans available. Continuing reading below for more information on these subjects.

The Basic Building Blocks of a Loan.

A loan is given to a borrower in order to help them financially in some way. A lender (the person who gives the money), is usually part of a financial institution, government association, or corporation. The borrower then incurs a debt to the lender that is expected to be repaid over a period of time. Before the lender advances the money to the borrower, the two parties would have to agree on a set of terms. In these terms, would be the repayment date, interest and finance charges, and any other conditions that the lender deems necessary. 

In some instances, the lender may require collateral. Collateral is essentially a fallback plan for the lender if the borrower defaults (does not pay-off) on their payment. For example, if you did not pay your loan off and collateral was given to the lender at the start of the agreement, they could then take possession of the collateral item in order to make up for some or all of the borrowed money. Commonly, paid-off cars, investment accounts, and savings deposits are accepted as collateral. 

what is a loanTypes of Interest.

Interest on loans is an important part to consider when deciding which loan to get. There are two types of interest rates on loans – simple interest and compound interest. 

What is Simple Interest:

Simple interest is interest on the initial value of the product. This type of interest usually applies to car loans or short-term loans. However, some mortgages do use this type of interest calculation. Simple interest is calculated by multiplying the daily interest rate by the initial amount by the number of days that occur between each payment. Loans with simple interest are good for individuals who consistently pay their loans on time or early each month. 

What is Compound Interest:

Compound interest is the interest on a loan that is determined by the initial loan amount and the accumulated interest from previous periods. Compound interest grows at a constantly accelerating rate. In that, unlike simple interest, the amount of interest you pay in the first year would be different than what you pay in the second, third, and fourth years, etc. 

Types of Loans.

There are various different types of loans that one can receive. The most applicable to our clients would be a secured or unsecured product. Mortgages and car loans are considered to be secured loans. This is because they require collateral. Most often in the case of a mortgage or car loan, the collateral is the asset being purchased with the loan. So, in the case of a mortgage, the collateral would be the home. An example of an unsecured loan would be a credit card. This means that the loan is not backed by any kind of collateral. 

Furthermore, there is also revolving vs term loans. A term loan is one that must be repaid in equal monthly installments over a period of time. Whereas, a revolving loan can be spent, repaid, and spent again. A car loan is a secured term loan and a credit card is an unsecured revolving loan. 

For more information on loans visit the loan section in the TransCan Leasing Education Centre. Additional support can be provided by contacting one of our experienced loan officers. We look forward to helping you!