<< Financial Education

Educational Resources - Borrowing Basics

Borrowing Basics

Borrowing Basics

What is Credit anyway? Credit is money you borrow. It is usually referred to as a loan. You make a promise to pay back the money you borrowed plus some extra. The extra amount is part of the cost of borrowing the money.

Credit is important because it can be useful in times of emergency and is sometimes more convenient than cash. In addition, large purchases such as a car or a house generally need to be made using credit as most people do not have that much cash available.

While taking on debt never sounds like a good idea, it can actually be smart when it helps to establish credit history and helpful when you need to purchase something immediately but don't have cash available to make the purchase. By studying this course, you can increase your understanding of:

Click on the links above to learn more!

Types of Credit

Types of Credit

Consumer Installment Loans
A consumer installment loan can be used to make large purchases or to pay for personal expenses for you and your family. Such loans are usually repaid over a number of months or years by making monthly or periodic payments. The following are examples of consumer loans:

  • Auto loans are used for buying automobiles. The automobile that is purchased is used as collateral for the loan. Collateral is what you promise to give to the lender if you do not pay back the loan.
  • Personal loans are unsecured loans that are often used for short-term needs.

Secured Loans
A loan can be secured by collateral. Collateral is what you promise to give to the lender if you do not pay back the loan.


  • You can use the car or home you are purchasing with a loan as collateral. There are other items you can also use as collateral.
  • When a loan is secured by collateral, the lender can take the item if you do not pay back the loan.

Credit/Department Store Cards
Credit cards give you an ongoing ability to borrow money for household, family, or other personal expenses.

Home Loans
Home loans are secured by your home. There are three main types of home loans.

  • Home loans are secured by your home. There are three main types of home loans.
  • Home refinancing is a process by which an existing home loan is paid off and replaced by a new one.
  • Home Equity loans are secured by a property of the borrower. The amount of the equity is the value of the property minus the debt. Home equity loans generally can be used for any purpose.

Cost of Credit

The Cost of Credit

When you get a loan, there are generally two costs you must pay: fees and interest.

A fee is an amount charged by a financial institution for the services it provides. Examples of fees include:

  • Maintenance fees
  • Service charges
  • Late fees
  • Application Fees

Interest is the amount of money the bank charges you for letting you use its money. Interest is only part of the total cost of credit.

Interest rates can be either variable or fixed.

  • Variable rate means the interest rate may change during any period of the loan term, as written in the contract.
  • Fixed rate means the interest rate stays the same throughout the term of the loan.

Applying for Credit

Applying for Credit

Ask yourself these questions before obtaining credit.

  • Do I need this?
  • Do I need it now?
  • Can I wait until I have cash to pay for it?
  • Can I get credit?
  • How much more will I pay if I buy on credit?
  • Can I afford the monthly payments?
  • What is the total cost of credit?
  • Are there any fees?
  • What is the annual percentage rate?

Manage Your Credit

Managing Your Credit

Once You Get Credit

  • If possible, pay off your entire bill each month. If you can't, try to pay more than the minimum balance due. This will reduce interest charges and total interest paid.
  • Pay on time to avoid late fees and to protect your credit. If you cannot pay on time, call your creditor immediately to explain the situation. They may waive late fees or be willing to make different payment arrangements.
  • Always check your monthly statement to verify transactions. Call or write to your creditor right away if you suspect errors in your statement.
  • Ignore offers creditors may send you to "reduce" or "skip" payments. You may still be charged interest charges during this period.
  • Think about the cost difference if you purchased your item with cash versus if you purchase your item with credit.
  • Remember, if you purchase a $500 stereo with a credit card with a 20% annual percentage rate, it will cost $1,084 and take 9 years to pay off if you only pay $10 monthly payments.


Glossary of Loan Industry Terms

- A -

Account Verification
Before opening an account, most banks will review your history of using checking accounts through companies such as TeleCheck or ChexSystems. Some banks will run a full credit report to determine the level of risk.

The account information is collected from financial institutions. If you have a history of bouncing checks or misusing your accounts, financial institutions may not open an account for you.

Annual Fee
A yearly fee charged by credit grantors for the privilege of using credit.

Annual Percentage Rate (APR)
The cost of credit expressed as a percentage per year.

Annual Percentage Yield (APY)
APY is the amount of interest you will earn on a yearly basis expressed as a percentage. The APY includes the effect of compounding. When comparing different accounts, you should compare the APYs of the savings products, not the interest rates. The higher the APY, the higher the interest you will receive. The interest you earn is considered income and is taxable.

A person applying for credit privileges, employment or some other benefit.

Any item you own that has economic value or use.

A lien against personal property.

Automated Teller Machines (ATM)
This is a computer where you can deposit, withdraw, or transfer money from one account to another 24 hours a day. Use of an ATM requires a card issued by the bank and a personal identification number (PIN). A PIN is a special password or set of numbers to use your debit or ATM card. The PIN is used for security purposes, so no one else can access your account.

Authorized Account User
The person authorized by the contractually responsible party to use the account.

Return to top

- B -

Balance is the amount of money you have in your bank account.

Balance Computation Method
This will determine how your interest is calculated. There are a variety of methods. The most common is the average daily balance.

Balloon Mortgage
A balloon mortgage is one with a large payment at the end of your loan term. This is often after a series of low monthly payments. A balloon mortgage generally offers very low rates for an initial period of time (usually 5, 7 or 10 years). After the period ends, the entire balance is due. Many borrowers pay the balance by refinancing their mortgage.

A bank is a business that offers you a place to keep your money and uses it to make more money. Banks offer you different services for keeping your money.

A legal declaration of insolvency. A proceeding in U.S. Federal Court that may legally release a person from repaying debts owed. The law contains several chapters which relate to different methods of relief:

  • Chapter 7 - Straight Bankruptcy (total liquidation of assets)
  • Chapter 11 - Business Reorganizations
  • Chapter 12 - Farm Debt Bankruptcy
  • Chapter 13 - Wage Earner Repayment Plan

Bankruptcy Discharged
A court order terminating bankruptcy proceedings on old debts.

Bankruptcy Dismissed
A court order that denied a bankruptcy petition making the debtor still liable for all debts.

When you purchase a bond, you are essentially loaning money to a corporation or to the government for a certain period of time, called a term. The bond certificate promises the corporation or government will repay you on a specified date with a fixed rate of interest.

Branch Manager
A branch manager is the person who supervises the bank operations and helps fix problems that cannot be solved by other bank employees.

A mortgage broker helps a prospective borrower shop around for the best rate and terms in obtaining a mortgage loan.

A financial plan for saving and spending money.

Return to top

- C -

Caps are provisions of an adjustable rate mortgage, which limit how much the interest rate can change at each adjustment period or over the life of the loan. A payment cap limits how much the payment due on the loan can increase and decrease.

Cashier's Check
For a cashier's check, you provide cash or money from your account in the amount of the check plus a service charge (usually form $2 to $5). You also tell the institution who is receiving the check. The institution writes a check (also called a bank check or teller's check) for you. This check is guaranteed not to bounce. A cashier's check is available from financial institutions.

Certified Check
A certified check is a check you write and take to your financial institution. The bank will mark it "certified" for a fee (usually $2 to $5) and place a hold on the money in your account until the check is processed. A certified check is guaranteed not to bounce.

Charge Card
A card which requires payment in full upon receipt of the statement.

Charge Off
Accounting term to indicate that the creditor has removed a loan from its balance sheet because collection is unlikely.

Checking Account
A checking account is an account that lets you write checks to pay bills or to buy goods. The financial institution takes the money from your account and pays it to the person named on the check. The financial institution sends you a monthly record of the deposits made and the checks written.

Closing Costs
Closing costs are various charges associated with the transfer of property. The lender must disclose these costs to you. Different costs can be found on the Mortgage Shopping Worksheet.

Property acceptable as security for a loan or other obligation.

Collection Account
An account that has been transferred from a routine debt to a Collection Department of the creditor's firm or to a separate professional debt collecting firm.

Compensating Factors
Compensating factors are favorable factors that might outweigh the negative factors. For example, a borrower has high ratios, but he or she balances this with good credit history and extra cash in a savings account.

A condominium is an apartment building or multiple-unit housing area in which the living units are owned individually.

Consolidation Loan
A loan usually obtained for the purpose of reducing the amount of the payments of bills owed by consolidating the bills into one loan payment. The consumer pays off several bills with the proceeds from one loan and is left with one consolidated monthly payment.

Person who uses and/or buys goods and services for family or personal use.

Consumer Credit Counseling Service
Organizations which help consumers find a way to repay debts through careful budgeting and management of funds. These are usually nonprofit organizations, funded by creditors. By requesting that creditors accept a longer payoff period, the counseling services can often design a successful repayment plan.

Convenience Checks
A convenience check is a cash advance that is used like a regular check. However, the money is charged against your credit limit. There is usually a grace period and the interest charge is usually higher than for purchases.

Conventional Loan
A conventional loan is a mortgage that is not guaranteed, insured, or made by the federal government.

Person responsible for repaying a debt if the borrower defaults.

A trust or a promise to pay later for goods or services purchased today.

Credit Card
A rectangular piece of plastic used instead of cash or checks authorizing payment for goods and services.

Credit Grantor
Person or business that loans money or furnishes consumer goods and/or services on credit.

Credit History
Record of how a consumer has paid credit accounts in the past, used as a guide to determine whether the consumer is likely to pay accounts on time in the future.

Credit Limit
The maximum amount of money that can be charged on a particular credit account.

Credit Repair Companies
Individuals or Companies that promise to "clean-up" or "erase" a consumer's bad credit and give him/her a fresh start. Also known as Credit Clinics.

Credit Report
A record or file to a prospective lender or employer on the credit standing of a prospective borrower, used to help determine credit worthiness.

Credit Reporting Agency
A company that gathers, files and sells information to creditors and/or employers to facilitate their decisions to extend credit or to hire.

Credit Union
A nonprofit financial institution owned by people who have something in common. You have to become a member of the credit union to keep your money there.

Return to top

- D -

Debit Card
A debit card is a plastic card sometimes called a "Check Card". The debit card has a MasterCard® or Visa® logo and a magnetic strip on the back that allows you to pay for goods and services at stores and other businesses that accept MasterCard or Visa credit cards.

The debit card also functions as an ATM card. With ATM Cards, you can make deposits to or withdrawals from your checking account at ATMs. Most debit cards require a PIN if you use the card as an ATM card.

Debt-to-Income Ratio (DTI)
DTI is the ratio of monthly debt payments to monthly gross income. Lenders use DTI ratio to determine whether a borrower's income qualifies him or her for a mortgage.

Deposit Products
Deposit Products are bank accounts that allow you to add money to the account. Checking and savings accounts are two examples of deposit products.

Direct Deposit
Direct Deposit is one method your employer or a government agency might choose to give you your paychecks or benefits checks. With direct deposit, your paychecks or benefits checks are electronically transferred and directly deposited into your account. The amount of money is immediately available Some banks will not charge the monthly fees if direct deposit is used.

Diversification means you spread the risk of loss in a variety of savings and investment options. It is the concept of "don't put your eggs in one basket."

Down Payment
The down payment is the portion of the home's purchase price the buyer pays in cash.

Duplex House
A duplex is a house divided into two living units.

Return to top

- E -

Equal Credit Opportunity Act (ECOA)
A federal law that requires lenders and other creditors to make credit equally available without discrimination based on race, color, religion, national origin, age, sex, marital status, or receipt of income from public assistance programs.

Return to top

- F -

401(k) and 403(b) Retirement Plans
401(k) plans are retirement plans that some private corporations offer their employees. A 403(b) plan is similar to a 401(k), but is offered to employees of some nonprofit organizations. In both types of plans, you choose to deduct part of your paycheck and place it into the investment strategy you design.
The plan allows you to choose different types of investments, depending on how much risk you want to take. The money you place into the account lowers your taxable income. The employer usually matches a portion of your contribution, sometimes up to 50 percent. The funds grow tax-free until the money is withdrawn during retirement.

Fair Credit Reporting Act
A federal law, established in 1971, and revised in 1997, which enables consumers to learn what information Credit Reporting Agencies have on file about them, and to dispute inaccurate data in the file. It also establishes specific permissible purposes for which credit reports may be requested, and places time limits on how long adverse information may be reported.

Financial Institutions may charge you different fees for different services. For example, a monthly maintenance fee might be charged for keeping your account open. In addition, you might also be charged a penalty fee if you misuse your account, such as by bouncing a check.

Fixed Rate Loan
A fixed rate loan has an interest rate and payment amount that stays the same throughout the term of the loan.

A legal proceeding initiated by a creditor to take possession of collateral that secured a defaulted loan.

Return to top

- G -

A process initiated by a court order through which a lender can obtain money owed to a borrower who has defaulted on a loan, directly from a third party.For Example, a borrower's employer can be required to pay a portion of the borrower's paycheck directly to creditors that have obtained a judgment against the borrower.

Good Faith Estimate of Settlement Costs (GFE)
A process initiated by a court order through which a lender can obtain money owed to a borrower who has defaulted on a loan, directly from a third party.For Example, a borrower's employer can be required to pay a portion of the borrower's paycheck directly to creditors that have obtained a judgment against the borrower.

Government Mortgages
A government mortgage is insured by HUD (through the Federal Housing Administration (FHA)) or guaranteed by the Department of Veteran's Affairs or the Rural Housing Service.

Grace Period
The period allowed to avoid any interest charges by paying off the balance in full before the due date.

Return to top

- H -

Home Equity Loan
A loan that can typically be used for any purpose that is secured by a mortgage on the borrower's home.

HUD-1 Settlement Statement
A HUD settlement statement is a summary of all the costs paid by the buyer and seller in a mortgage transaction.

Return to top

- I -

The index is a base interest rate used to calculate the interest rate that will be charged on a variable rate loan. The rate you will pay on a variable rate loan is usually a set percentage rate above the base rate, or index.

Individual Development Account (IDA)
An IDA is a matched savings account. When an account is matched it means that another organization, such as a foundation, corporation, or government entity agrees to add money to your account.

Individual Retirement Account (IRA)
An IRA is a retirement account that lets you save and invest money tax-free until you withdraw it when you retire. You can contribute up to $2,000 a year. There are different types of IRAs including traditional and Roth IRAs

Installment Loan
A credit account in which the amount of the payment and the number of payments are predetermined or fixed.

Interest is the extra money in your account that the bank pays you for keeping your money. One of the main advantages of having a deposit account is the interest you earn.

Interest Charge
The interest charge is the cost of credit. It includes interest, certain service charges and transaction fees. This charge is calculated on your balance using different methods.

A savings option purchased for future income or financial benefit.

Return to top

- J -

The official court decision of an action or suit. This public record may be listed on a credit report in matters of money and debts owed.

Return to top

- K -

Return to top

- L -

A written document containing the conditions under which the possession and use of real and/or personal property are given by the owner to another for a stated period and for a stated consideration.

A legal hold or claim of one person on the property of another as security for a debt or charge. The right given by law to satisfy debt.(A lien must be paid and released).

Line of Credit
A commitment by a bank to lend funds to a borrower up to a specified amount over a specified future period.

Liquidity refers to the ease with which an asset (a thing of value) can be turned into cash without losing its value. For example, cash is the most liquid; a certificate of deposit (CD) may be liquidated, but you pay an early withdrawal penalty; a house might be your least liquid asset because it takes time to sell.

Loan Officer
The loan officer is the person who takes applications for loans offered at the bank. The officer can answer questions for you, provide written information explaining loan products and help you fill out a loan application.

Loan Origination Fees / Underwriting Fees
These are fees charged by the lender for processing or evaluating the loan application and are often expressed as a percentage of the loan amount.

A loan is money you borrow from a bank with a written promise to pay it back later. Banks charge fees and interest. This is extra money you pay to borrow the money. You can talk to the customer service representative for more information about loans offered at a bank.

Loan to Value (LTV)
LTV is the amount of money you borrow compared to the value of the property you are buying.

Return to top

- M -

Minimum Payment
The minimum payment is the minimum dollar amount that must be paid each month. On a credit card account, the minimum payment can be as little as two to three percent of the amount owed and is often based on the balance on the billing date.

Money Order
A money order is similar to a check. It is used to pay bills or make purchases when cash is not accepted. Many businesses sell money orders for a fee. If you need to use a money order, it is best to shop around for the best price.

A security interest in real property given by the buyer to the lender as security for money borrowed. 1st Mortgage-Also known as the "primary" mortgage-has priority over the claims of subsequent lenders for the same property. 2nd Mortgage-Also know as the "secondary" mortgage-is a loan secured by mortgage or trust deed, which lien is "junior" to another mortgage or trust.

Mutual Funds
A mutual fund is a professionally managed collection of money from a group of investors. A mutual fund manager invests your money in some combination of various stocks, bonds and other products. The fund manager determines the best time to buy and sell the products in the fund. by combining your resources with other investors in a mutual fund, you can diversify even a small investment, which should reduce risk.

Return to top

- N -

Non-deposit Products
Many banks also offer non-deposit products and services that are not insured by the FDIC. Stocks, bonds, and mutual funds are examples of non-deposit investment products.

Bank personnel are supposed to provide a written explanation that the FDIC does not insure these products and the money you invest might lose value. You can find out more about these non-deposit products at your bank.

Return to top

- O -

Return to top

- P -

Periodic Rate
The periodic rate is an interest rate applied to your balance to calculate the finance charge. For example, the monthly periodic rate for a card with an 18% APR is 1.5% (18% divided by 12 months). If your monthly balance were $1,000, you would multiply it by 1.5% to get your monthly interest charge of $15 ($1,000 x 1.5%=$15). The daily periodic rate for the same 18% APR is 0.04932% (18% divided by 365 days).

Permissible Purposes
As defined in section 604 of the Fair Credit Reporting Act, only the named reasons for requesting a credit report are deemed "permissible". Requests not meeting these criteria must be denied.

Personal Line of Credit
The maximum amount one can owe at any time, based on income, debt and credit history.

Personal Loan
A loan based on a consumer's income, debt and credit history.

A point is the amount equal to one percent of the loan amount. It is a fee paid to the broker or lender for the loan, often linked to the interest rate.

Previous Balance
The previous balance is the amount you owed at the end of the previous billing period. Payments, credit and new purchases during the current billing period are not included. Some creditors also exclude unpaid interest charges.

The outstanding balance of a loan, exclusive of interest and other charges.

Principle, Interest, Taxes andInsurance (PITI)
PITI are the factors included in the standard mortgage payment.

Private Mortgage Insurance (PMI)
A risk-management product that protects lenders against loss if a borrower defaults.

Public Record
Information obtained by the Credit Reporting Agency from court records, such as liens, bankruptcy filings and judgments. Public records are open to any person who requests them.

Return to top

- Q -

Return to top

- R -

Rate Lock
A rate lock is the time period, usually 30 to 60 days, that a mortgage lender agrees to hold the mortgage rate and points payable by the borrower to the rate quoted by the lender on a given day.

Forced or voluntary surrender of collateral as a result of the borrower's failure to repay a loan. There are several types and descriptions of repossession actions.

Revolving Account
A credit account that usually requires at least a specified minimum payment each month plus a Interest charge on the balance. As the balance declines, the amount of the Interest charge, or interest, may also decline.

Risk versus Return
This means that the more risk you take in your investment, the higher the expected return on that investment. However, there is also a higher risk that you might lose the entire amount you invested.

Return to top

- S -

Savings Accounts
A savings account is an account that always earns interest. You cannot write checks on a savings account. You can open a savings account with a few dollars, but you might pay a monthly fee if the balance is below a certain amount. The bank will help you keep track of your account by either sending you a statement or providing you with a booklet called a passbook.

Secured Credit Card
A credit card secured by a savings account that has been established in advance by the borrower. The amount in the account usually determines the limit on the credit card. These accounts present limited risk for creditors and are, therefore, much easier to obtain than unsecured credit.

Settlement Costs/ Closing Costs
Fees associated with the transfer of property to a purchaser and recording the mortgage lien on the property deed by the bank financing the transaction. This may include application fees, title examination, abstract of title, title insurance, and property survey fees; fees for preparing deeds, mortgages, and settlement documents; attorney's fees; recording fees; and notary, appraisal, and credit report fees.

Smart Card
An electronic prepaid cash card, usually sold at banks and exchanged at face value.

When you buy stocks (shares), you become part owner of the company. If the company does well, you might receive periodic dividends. Dividends are part of a company's profits it gives back to you when you own stock in the company. If the company does poorly, you might lose your money.

Return to top

- T -

Telephone Banking
Telephone banking allows you to:

  • Check your account balance by phone
  • Transfer money between accounts
  • Obtain account history, such as most recent deposits or withdrawals
  • Stop payment on a check
  • Obtain information on branch hours or other information, and
  • Report a lost, stolen, or damaged card

The teller is the person behind the counter who takes money, answers questions, cashes checks, or refers you to the person who can help you. You can go to any teller in the bank.

A thrift is a savings bank or savings and loan association that is similar to a bank. Thrifts were created to promote home ownership and must have a majority of their assets in housing-related loans.

The title indicates the right of ownership in the property.

Title Insurance
Title insurance protects the buyer and lender against losses arising from disputes over the ownership of property.

A townhouse is one of a row of houses connected by common side walls.

Trans Union
One of the three major Credit Reporting Agencies.

Return to top

- U -

U.S. Savings Bonds
Savings bonds are one type of Treasury securities. They are a long-term investment option backed by the full faith and credit of the U.S. government. Purchasing these bonds is an easy way to save small amounts of money and are often purchased for a child's education; however, they may be used for any purpose. Savings bonds can be purchased at a financial institution for as little as $25 or through payroll deduction.

U.S. Treasury Securities
U.S. Treasury securities are debt instruments. When you purchase a Treasury security, you are loaning money to the government. Treasury securities are backed by the full faith and credit of the U.S. government, which means the government guarantees interest and principal payments will be paid on time. Treasury securities include:

  • Savings bonds, which can earn interest for up to 30 years, but can be cashed after 6 months.
  • Treasury bills, which mature in one year or less from their issue date.
  • Treasury notes, which mature in more than a year, but not more than 10 years from the issue date.
  • Treasury bonds, which mature in more than 10 years from the issue date.

Treasury bills, notes and bonds are transferable, which means you can buy or sell them in the securities market. You can buy Treasury bills, notes and bonds for a minimum of $1,000.

Return to top

- V -

Variable Rate Loan
A variable rate loan has an interest rate that might change during any period of the loan as written in the contract (loan agreement). Variable rate mortgages are often referred to as adjustable rate mortgages (ARMs).

Return to top

- W -

Wire Transfer
A wire transfer is a method of electronically transferring money from one bank to another.

A withdrawal is the process of taking money from your bank account. You do this by writing a check, using an ATM, or by giving a teller a withdrawal slip. A withdrawal slip looks similar to a deposit slip, except you are taking money out rather than adding money to your account.

You need to be sure you do not withdraw more money than you have in your account. If you do, you will be overdrawn, or bounce a check, and be charged a fee.

Return to top

- X -

Return to top

- Y -

Return to top

- Z -

Return to top