Plain-English definitions for every term you're likely to encounter when taking out a loan or mortgage. No jargon left unexplained.
The process of paying off a loan through regular instalments over a set period. Each payment covers both interest and a portion of the principal. Early payments are weighted heavily toward interest; later payments pay down more principal.
The true yearly cost of a loan, expressed as a percentage. APR includes not just the interest rate but also fees such as origination charges, making it more useful than the headline rate for comparing loan offers.
Similar to APR but accounts for the effect of compounding interest. More commonly used for savings accounts than loans. A higher APY on savings is good; a higher APR on a loan is bad.
When a borrower falls behind on scheduled loan payments. Being in arrears can trigger penalty fees, damage your credit score, and in serious cases lead to default proceedings.
A large lump-sum payment due at the end of a loan term. Some loans are structured with low monthly payments but a balloon payment at the end — common in certain car finance (PCP) and commercial loan agreements.
The benchmark interest rate set by a central bank (e.g. the Federal Reserve in the US, the Bank of England in the UK). Lenders use the base rate as a floor when pricing their own loan products. When the base rate rises, most variable-rate loans become more expensive.
A short-term loan used to cover a gap — most commonly in property transactions where you need to buy a new home before selling your existing one. Higher interest rates than standard mortgages; intended to be repaid within months, not years.
The original sum of money borrowed, before any interest is added. When you make loan repayments, part goes to interest and part reduces the capital balance.
An asset pledged as security for a loan. If you default, the lender can seize the collateral to recover their money. Your home is collateral on a mortgage; your car on a car loan.
Interest calculated on both the original principal and the accumulated interest from previous periods. It grows your debt faster than simple interest. Most mortgages and loans use compound interest — which is why paying extra early makes such a large difference over time.
A numerical rating (typically 300–850 in the US) that reflects how reliably you repay debt. Lenders use it to decide whether to approve a loan and at what rate. A higher score generally means a lower interest rate on offer.
Taking out a single new loan to pay off multiple existing debts. The goal is usually to reduce the overall interest rate, simplify payments, or lower the monthly outgoing. Can save money if the new rate is lower — but can cost more if the term is extended significantly.
Your total monthly debt payments divided by your gross monthly income, expressed as a percentage. Lenders use DTI to assess affordability. A DTI above 43% will disqualify many applicants for a mortgage.
Failure to meet the legal obligations of a loan — usually by missing a set number of payments. Defaulting can result in the lender taking legal action, repossessing collateral, and a serious long-term impact on your credit history.
The upfront cash contribution a borrower makes toward a purchase. A larger deposit means a smaller loan and usually a lower interest rate. On a mortgage, a 20% deposit typically avoids private mortgage insurance (PMI).
A fee charged by some lenders if you pay off a loan — or make overpayments above a set threshold — before the agreed end date. Common on fixed-rate mortgages during the initial deal period. Always check for ERCs before overpaying.
The portion of an asset you own outright — the market value minus what you still owe. Home equity grows as you pay down your mortgage and as property values rise. You can borrow against equity via a home equity loan or line of credit.
A loan where the interest rate stays the same for the entire term (or a set initial period). Your monthly payment is predictable, which makes budgeting easier — but you won't benefit if rates fall.
A temporary agreement with a lender to pause or reduce loan payments during financial hardship. Interest typically continues to accrue. Not the same as forgiveness — the payments are deferred, not cancelled.
The cost of borrowing money, calculated as a percentage of the outstanding balance. It's how lenders make money. The higher the rate and the longer the term, the more interest you pay in total.
A mortgage where monthly payments cover only the interest, not the capital. Your balance stays the same throughout the term — you must repay the full original amount at the end (usually by selling the property or from savings).
The size of your loan expressed as a percentage of the property's value. A $200,000 mortgage on a $250,000 home = 80% LTV. Lower LTV generally means better rates and fewer restrictions from lenders.
A loan secured against a property. If you fail to repay it, the lender can repossess and sell the property to recover the debt. Mortgages typically run 15–30 years and are the largest financial commitment most people make.
The fixed amount paid to a lender each month, comprising interest and principal repayment (on a repayment mortgage). Calculated using the loan amount, interest rate, and term length.
When the outstanding mortgage balance is higher than the current market value of the property. This can happen after a fall in property prices. Being in negative equity makes it difficult to sell or remortgage.
A one-off fee charged by a lender to process and set up a new loan. Usually expressed as a percentage of the loan amount (e.g. 1%). Included in the APR calculation — watch for it when comparing offers.
Paying more than the required monthly amount. Overpayments reduce your outstanding balance faster, cutting the total interest paid and shortening the loan term. Even small regular overpayments can save thousands over the life of a mortgage.
The original amount borrowed, excluding interest. When you repay a loan, each payment reduces the principal balance (as well as covering interest). The faster you reduce the principal, the less interest you pay overall.
Insurance required by US lenders when the down payment is less than 20% of the home's value. It protects the lender (not you) if you default. PMI typically costs 0.5–1.5% of the loan amount per year and can be removed once you reach 20% equity.
Replacing an existing loan with a new one — usually to get a lower interest rate, reduce monthly payments, or change the loan term. Can save significant money but comes with closing costs and may reset your amortisation clock.
The standard type of mortgage where each monthly payment covers both interest and a portion of the capital. By the end of the term, you've paid off everything. Contrasts with an interest-only mortgage, where the capital remains at the end.
A loan backed by an asset (collateral). If you default, the lender can take the asset. Mortgages and car loans are secured. Because the lender has protection, secured loans typically carry lower interest rates than unsecured ones.
Interest calculated only on the original principal, not on accumulated interest. Less common for long-term loans than compound interest. $10,000 at 5% simple interest = $500 per year, every year, regardless of what has been repaid.
The length of time over which a loan is repaid. Longer terms mean lower monthly payments but more total interest paid. Shorter terms mean higher monthly payments but less overall cost. A 15-year mortgage always costs less in total than a 30-year mortgage at the same rate.
The full amount you'll pay over the life of a loan, including all interest and fees. This is the figure that really matters — not just the monthly payment. Two loans with the same monthly payment can have very different total costs if the terms differ.
The process by which a lender assesses the risk of offering a loan. Includes checking credit history, income, employment, debts, and the value of any collateral. The underwriting decision determines whether you're approved and at what rate.
A loan not backed by any collateral. Personal loans and credit cards are typically unsecured. Because the lender takes on more risk, rates are higher than for secured loans. If you default, the lender must pursue legal action rather than repossessing an asset.