Consumer debt has a language all its own. It is important to “speak the language” before you apply for a consumer. The principle is simply the amount of money that you borrow and on which you pay interest. The maturity, as explained earlier, it is the duration of the loan. Thus, if you borrow $3000 and agree to repay the money you borrowed in three years, the loan principal is $3000, and a loan maturity is three years. If you repay $1000 of the loan one year later, the loan principal is now $2000, and the loan maturity is now two years.
Finance charges, are interest payments you most make to compensate the lender for the use of the funds. Finance charges are determined by the maturity of the loan, the principal, the interest rate charged, and the method of calculating finance charges.
There are three common methods of the terminating finance (interest) charges on consumer loans: the simple interest method, the discount method, and the add-on method. Under the simple interest method, interest is charged only on the amount that you actually owe at any point in time. Thus if you borrow $3000 at 10 percent interest for one year, the interest charged under this simple interest method would be $300.
At maturity, you will pay $3300, consisting of $3000 in loan principal plus $300 and interest. You might also be charged simple interest on an installment loan. As with a single-payment, simple interest loan, you only pay interest on the outstanding balance at any point in time under a simple interest installment loan. Simple interest installment loans require equal periodic payments. Although the installment payments are equal amounts, the portion of each payment that is repayment of principal increases with each payment, whereas the portion of each payment that represents interested decreases.
A second method of calculating finance charges is the discount method. Under the discount method, finance charges are calculated based upon the loan principal, and then are deducted from the principal, with the borrower receiving the net amount.
The interest rate charged varies with economic conditions, the duration of the loan, the type of loan, and the creditworthiness of the borrower. Several financial publications print current representative loan rates.
Although the timing of loan payments is detailed in the loan agreement, you may have the funds necessary to repay the loan early. If you pay off the balance due before the loan matures, you might be able to reduce your finance charges since the money is not barrowed for as long.