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Financial Glossary by Alphabet

Amortization

A term commonly met in the lending field is amortization. It represents using specifically structured periodic payments in order to pay off a loan over a pre-determined time period. Those payments include the related interest and other finance charges as well as a portion that goes for the principal of the loan.

Loan Amortization: As you make the periodic interest and principal payments on the loan your balance on the loan gradually decreases. In other words, you are "amortizing" your loan.

Annual Percentage Rate (APR)

The amount you borrow doesn't come for free. The interest rate that you are charged on the borrowed money is referred to as annual percentage rate, which is also commonly referred to as APR or just interest rate.

Annuitant

The person who receives the benefits of an annuity is referred to as an annuitant. The annuitant can be the annuity contract holder or another person to whom the title has been designated.

Appraisal Fee

During an appraisal the value of your home is investigated in order for the lender to know how much the value of your home is. In order to have your home appraised you will have to pay a fee which is called an appraisal fee.

An appraisal is required by the lender so that in case the borrower defaults on the loan, the lender will be sure that they will be able to sell the property and cover the loaned money with the proceeds.

Assumable Mortgage

A type of mortgage, which allows someone else to assume it, is called assumable mortgage.

This means that the home buyer has the ability to take over (or "assume") the existing mortgage of the seller provided that the lender of that mortgage approves.

If interest rates have risen since the time the original mortgage was taken out, the buyer will benefit from the seller's relatively lower-interest-rate mortgage. On the other hand, the seller gets free from the mortgage and buyer is the person responsible for its coverage.

However, assumable mortgages are not easy to find. Additionally, although the mortgage is assumable, the lender can still change the loan terms for the buyer.

Average Daily Balance

The finance charge you are subject to can be calculated in a number of ways. One of them is the average daily balance (also known as ADB) method. The following formula is applied for the calculation of the finance charge using the average daily balance model:

Finance Charge = (ADB x APR x Billing Cycle Days) / Days in Year

As you can see from the formula above, the models considers the balance that is owed by the credit holder during every day of the billing cycle, which is divided by the billing cycle's number of days. APR is the third multiplier used. The result is divided by the number of days in the year under consideration.

Balance Transfer

Credit holders are given the opportunity to move credit card debt from one credit card to another credit card. This process is commonly referred to as balance transfer.

Billing Cycle

Some time is given between the different billings that occur. This time period is usually referred to as the billing cycle.

Cash Advance

Credit card holders are provided the opportunity to take cash against the credit card balance they hold. This is referred to as cash advance.

No matter how attractive these cash advances may seem, you should keep in mind that there is a fee associated with them as well as a higher than usual interest rate. However, some companies have gone a step further by offering a lower introductory rate.

Credit Bureau

Your credit and payment activity is tracked and recorded regularly. This is done by the so called credit bureaus (commonly referred to as credit reporting agencies), which gather and compile information about credit holders.

Upon request, the credit bureau will provide this information to lenders and creditors, so that they make better decisions on the giving of credit to potential clients.

There are three major credit bureaus:

  • Experian
  • TrnsUnion
  • Equifax

Credit Inquiry

The credit report includes information on the credit activities of the credit holder. It also includes an entry, which shows that a particular business entity has filed a request for a copy of the report. This entry is usually referred to as credit inquiry.

Credit Limit

When you apply for a credit card you are usually posed a limit up to which you can withdraw money from the card. It is called credit limit.

An over the limit fee is charged on in case the credit card holder goes beyond this limit.

Credit Report

The credit history that you have developed is tracked and recorded by a credit bureau. This credit history is compiled in a credit report.

One of the major applications of credit reports is its use as a gauge for the creditworthiness of credit applicants by lenders and creditors.

Credit Score

The credit report includes information on the credit history of the credit holder. This report is numerically summarized and the result is the so called credit score.

Typically, a credit score ranges from 300 to 850 but there are different credit score models and this range can vary.

Credit score greatly facilitates lenders and creditors in their decision making regarding the creditworthiness of potential borrowers. Regardless of the credit score model used, the higher your credit score, the more creditworthy you are considered by potential lenders.

Credit Utilization

In order to calculate your credit utilization (commonly referred to as debt to credit ratio) you should divide the total credit you have by the total debt you have incurred. It gives you a measure of the purchasing power you posses. The result of the calculations is represented in percentages.

Discount Points

Discount points, usually referred to as just points, are a percentage of the amount of the loan you have taken. The most common use of discount points is to reduce the amount of the monthly payments you make. This is done through the reduction of your interest rate by the purchase of discount points.

One discount point is usually equal to 1% of the loan amount. For example, if the amount of your loan is $200,000 one discount point will be equal to $2,000.

Finance Charge

No credit comes for free. A term related to the cost of borrowing the money is finance charge. It includes not only the interest you are charged but also other charges, such as service fees for transactions, late fees, etc.

In order to calculate the finance charge the values of the APR and the balance are taken.

There are different methods by which finance charge can be calculated. The most widely used ones are the average daily balance and the two-cycle average daily balance models. Creditors are obligated to disclose the method they use for the finance charge calculation as required by the Truth in Lending Act.

Grace Period

Grace period has different definitions depending on whether it refers to credit cards or loans.

For the first, the grace period is usually the time during which credit card holders are given the opportunity to make payments without incurring any interest penalties.

The grace period for loans is usually the time that follows after the due date for payment. The loan will not be cancelled or default during this time, despite the owing of a payment.

Introductory Rate

The credit card holders are usually offered an interest rate on the initial/s of the credit card, which is called an introductory rate (commonly referred as teaser rate). This rate is not of a permanent character and after a certain period of time passes it expires.

Introductory rates are usually applied only on cash advances and balance transfers.

Late Fee

Certain dates are set when you should make the required payments for your credit/credit cards. If this payment is not made and you are late you will be subject to a late fee.

This fee is also applied when a credit holder exceeds the grace period.

Microlending

Microlending (commonly referred to as micro-lending, micro-finance, or microfinance) represents the granting of loans that are particularly small in size.

Typically, such microloans are granted to people who are unemployed, poor entrepreneurs or living in poverty and consequently not considered bankable.

Minimum Payment

The lender or creditor imposes a minimum payment that should be done so that the credit card or the loan is not defaulted. If you don't meet this minimum amount of money the lender has the right to charge you a late fee.

Mortgage

The loan used for the financing of the purchase of a specified real estate property, usually with predetermined set of payment periods and interest rates, is called mortgage. Mortgages are also known as "liens against property" or "claims on property".

The legal term for the borrower is mortgagor and the legal term for the lender is mortgagee.

Home loan and mortgage are usually considered as synonyms. Nevertheless, there is a slight difference between the two despite their obvious connection. The difference is that the mortgage is the agreement on which your home loan is based. Otherwise, if the bank doesn't have your home as a guarantee against you defaulting on the home loan, they will not lend you so much money.

Negative Amortization

Negative amortization, also known as Neg Am, occurs when the loan payment you make for any period is not enough to cover the interest charged over that period and as a result your outstanding loan balance increases.

What Is a Negative Amortization Loan?

Negative amortization loans (or Neg Am loans) are types of loans that do not reduce your loan balance. The initial payments of such loans are not enough to cover the full interest and the remaining unpaid interest is added to the balance as a result of which your loan amount increases.

Of course, negative amortization loans allow payments that are less than the interest due only for a certain period of time. After that period is over you will have to increase your payments so that they cover the full cost of the new interest, which is now higher.

Usually Neg Am loans are used to finance the purchase of a property by people (often first time home buyers) who cannot afford the huge monthly mortgage payments. They choose this type of loan hoping or expecting that their income will increase in future and they will be able to cover the payments. However, often such people fail to realize that later on the cost of the loan is significantly increased.

Nonrevolving Credit

There are different types of credits. One of them is the so called nonrevolving credit (commonly referred to as closed-ended credit), which cannot be used after payment is completed.

Examples of closed-ended credits include the loans for financing education or car loans.

Origination Fee

There are several types of fees that you will encounter during the mortgage taking process. One of them is the origination fee that is charged with the establishment of the mortgage.

The origination fee's major purpose is to serve as compensation to your lender or broker for the setting of the loan. The nature of origination fees is somehow vague, but they are an expense that you will incur for sure.

Over-the-Limit Fee

Credit card holders usually have a pre-set credit limit. If this limit in purchase, fees, or finance charges is exceeded, then you may be subject to an over the limit fee.

Keep in mind, however, that generally you will be liable for such fee only if you hold a revolving credit.

Periodic Rate

Credits include the so called periodic rate. It is based on the APR, which is correlated to a particular period of time.

For example, the monthly periodic rate represents an interest rate paid on monthly basis, which is calculated by dividing APR by 12.

Prepaid Interest

The interest that a borrower pays before the first scheduled repayment of the debt is referred to as prepaid interest.

For mortgage loans, prepaid interest refers to the interest the borrower pays at closing for the rest of the month.

Generally, the common practice is that the borrower pays his/her due interest in the beginning of the month. However, you may buy the home in the middle of the month. In such a case, you wouldn't have made any payments for this month. Thus, the due amount for the rest of the month has to be paid at closing.

It is good to note that points can be also considered a type of prepaid interest.

Prepayment Penalty

Some of the loans can charge you a fee if you repay the loan earlier than the due date. This fee is referred to as prepayment penalty (also commonly referred to as early payment penalty).

Most of the loans will require you to hold them for a particular time period, which usually lasts for several years. The reason for this is that during this time you will be required to pay interest on the balance, which represents a profit to the lender. The prepayment penalty is charged when you pay down the loan earlier or refinance it. However, the prepayment penalty may be worth incurring in case you have a better alternative that comes at a lower interest rate.

Refinance

When you no longer consider the terms of your loan favorable and you have found a better alternative with which to replace it you are refinancing (commonly referred to as restructure). This means that you are taking one loan with (presumably) more advantageous terms to pay down the loan you currently hold.

Cash out refinancing represents the act of taking a new loan that is of higher amount than the balance of the current loan so that equity out of an asset is taken out.

Revolving Credit

There are several types of credits. One of them is the so called revolving credit, which is commonly referred to as open-ended credit.

The holder of a revolving credit is allowed to use it repeatedly. However, there is a certain credit limit and the credit can be used as long as the payments are made.

Examples of revolving credits include lines of credit and credit cards.

Share Savings Account

Credit unions offer their members savings accounts, which are referred to as share savings accounts. They are also called S1 accounts, or just savings accounts. Deposits in these accounts are regarded as shares since the holders of the accounts are owners or members of the credit union.

Short Sale

When you sell an asset at a price that is lower than the balance of the loan you have, you are making a short sale. The lender from whom you have borrowed the money should also agree on the short selling. This is needed since there are some legal and tax consequences from the transaction.

To illustrate short selling, you possess a house that can be sold for $200,000. However, the balance on your mortgage is $210,000. This is a case in which short-selling can be considered.

Underwriting Fee

As part of the loan application process is the evaluation of the level of risk that the particular borrower poses. This evaluation doesn't come for free and an underwriting fee is charged for this purpose.

Referred to as underwriting process, the lender evaluates the likelihood that the borrower will or will not be able to pay back the lent money. During this evaluation, the lender examines the credit report of the potential client, as well as his/her debt-to-income ratios and other factors.

Universal Default

When a borrower has defaulted with one lender, the other lender has the right to impose default terms on the same borrower. This is referred as universal default.

These default terms are generally applied to borrowers that have failed to make their payments or have gone beyond their balances.

Variable Interest Rate

There are several types of interest rates connected with credits. One of them is the so called variable rate, which fluctuates according to the movements of another interest rate.