A loan is a contract between a borrower and a lender in which the borrower receives an amount of money (principal) that they are obligated to pay back in the future. Most loans can be categorized into one of three categories:
- Amortized Loan: Fixed payments paid periodically until loan maturity
- Deferred Payment Loan: Single lump sum paid at loan maturity
- Bond: Predetermined lump sum paid at loan maturity (the face, or par value of a bond)
Amortized Loan: Paying Back a Fixed Amount Periodically
Deferred Payment Loan: Paying Back a Lump Sum Due at Maturity
Bond: Paying Back a Predetermined Amount Due at Loan Maturity
Use this calculator to compute the initial value of a bond/loan based on a predetermined face value to be paid back at bond/loan maturity.
Amortized Loan: Fixed Amount Paid Periodically
Many consumer loans fall into this category. It contains regular payments that are amortized uniformly over its lifetime. Routine payments are made on principal and interest until the loan is entirely paid off, also known as the loan having matured. These are the most familiar loans such as mortgages, car loans, student loans, and personal loans. In everyday conversation, the word "loan" will refer to this type, not the type in the second or third calculation. Below is a list of loans that fall under this category, along with links to more information and calculators. Use the following for each specific need:
|Mortgage Calculator||Auto Loan Calculator|
|Student Loan Calculator||FHA Loan Calculator|
|VA Mortgage Calculator||Investment Calculator|
|Business Loan Calculator||Personal Loan Calculator|
Deferred Payment Loan: Single Lump Sum Due at Loan Maturity
Many commercial loans or short-term loans are in this category. Unlike the first calculation which is amortized with payments spread uniformly over their lifetimes, these loans have a single, large lump sum due at maturity. Although the lump sum includes a single payment of interest for the whole loan, it is not simple interest but accrued by compounding over the life of the loan. As a matter of fact, this is a typical calculation of how finance textbooks teach interest accumulation. Some loans, such as balloon loans, can also have smaller routine payments during their lifetimes, but this calculation only works for loans with a single payment of all principal and interest due at maturity. Compared with smaller routine payments, there is greater risk with not being able to meet the lump sum payment obligation at the end because of how relatively large it is.
Bond: Predetermined Lump Sum Paid at Loan Maturity
This kind of loan is rarely made except in the form of bonds. Technically, bonds are considered a form of loan, but operate differently from more conventional loans. Mainly in that the payment at loan maturity is predetermined, which is the main difference between this calculation and the second calculation, where the maturity payment is not predetermined. The face, or par value of a bond is the amount that is paid when the bond matures, assuming the bond doesn't default. The term is used because when bonds were first issued in paper form, the amount was printed on the "face", meaning the front of the bond certificate. Although face value is usually important just to denote the amount received at maturity, it can also help calculate coupon interest payments, which this calculation essentially does. Note that this is mainly for zero-coupon bonds, which do not have coupon payments in between. After a bond is issued, its value will fluctuate accordingly with interest rates, market forces, and many other factors. Due to this, because the face value due at maturity doesn't change, the market price of a bond during its lifetime can fluctuate.
Loan Basics for Borrowers
Nearly all loan structures include interest, which is the profit that banks or lenders make on loans. Interest rate is the percentage of a loan paid by borrowers to lenders. For most loans, interest is paid in addition to principal repayment in order to compound over time. Compound interest is interest that is earned not only on initial principal, but on accumulated interest of previous periods also. Loan interest is usually expressed in APR, or annual percentage rate, in which compounding of interest is not accounted for, but fees are. The rate usually published by banks is the annual percentage yield, or APY, in which compounding interest is accounted for. It is important to understand the difference between APR and APY. Borrowers seeking loans can calculate the actual interest paid to lenders based on their given advertised rates by using our Interest Calculator.
How often interest on loans compound will affect the total amount of interest paid. Generally, the more frequently compounding occurs, the higher the total amount due on the loan. In most cases, loans compound monthly as APR. Use the Compound Interest Calculator to learn more about or do calculations involving compound interest.
Terms of loans refer to how long they last, given that required minimum payments are made each month. For some specific loans such as mortgages or car loans, the terms can shorten if loan payments are accelerated. Terms can affect loan structures in many ways. Generally, the longer the term of a loan, the more interest will be accrued over time, raising the total cost of the loan for borrowers. However, because of a longer horizon to meet the debt obligation, routinely scheduled payments are lowered. Be sure not to confuse loan terms with the terms and conditions (T&C) of the loan; although T&C can have the terms in the fine print, the word "term" is referencing an entirely different aspect of loans.
There are two basic kinds of consumer loans: secured or unsecured.
A secured loan means that the borrower has put up some form of owned asset in exchange for money. As an example, a borrower could go to a bank and offer a valuable coin collection as collateral for a secured loan. It could have been sold for cash instead, but the borrower loses ownership of the asset from then on. By putting it up as collateral, ownership of the asset will be relinquished during the lifetime of the loan. Ownership of the asset is regained at loan maturity with the repayment of loan. However, defaulting on secured loans gives loan issuers legal ability to seize collateral. Common secured loans include mortgages secured by homes and cars secured by auto loans. For more information or to do calculations, use the Mortgage Calculator or Auto Loan Calculator.
An unsecured loan is simply an agreement to pay a loan back without collateral. Because there is no collateral involved, lenders need ways to verify the financial integrity of their borrowers, usually through inspecting credit histories and debt ratios. Unsecured loans generally have higher interest rates because there is no collateral involved. Unsecured loans include credit cards, personal loans, and student loans. Please visit our Credit Card Calculator, Personal Loan Calculator, or Student Loan Calculator for more information or to do calculations involving each of them.