Decoding financial jargon: 7 terms you should know before availing a loan

30-year old Sunil had always wanted to take a month-long dream vacation. But working in a day job, he rarely found the time to take an extended trip out of town. Eventually, after years of nurturing this dream, he finally found the time to make it come true. But a big vacation like that requires a hefty wallet, right? So, Sunil decided to approach the local neighbourhood bank to apply for a personal loan.

The night before the big day, he looked up the bank’s website to check out the loan options available to him. What he found, instead, was a bunch of jargon and complex terms that he had no idea about. This threw him off for a while, but he quickly gathered his wits and did a bit of research online to catch up with all the important phrases and terms related to loans and borrowings.

Sunil is not alone in this. Many borrowers are often unaware of the financial terms and phrases that lenders use. If that’s you too, worry not. Today, we’ll help you decode 7 key terms that you need to know before you apply for a loan.

 

1. Credit score

Your credit score is a rating that tells the lender whether you are a reliable borrower. It is a 3-digit number that could lie between 300 to 900. The higher your credit score is, the better your chances of obtaining a loan. Also, as you may have heard, a score of 750 or higher gives you better chances of availing a loan on favourable terms.

These credit scores are awarded by credit information companies like CIBIL and Experian, based on many factors like your repayment history, your credit utilization ratio, and your credit mix, among other things.

 

2. Top-ups

Top-ups or top-up loans are additional loans that are offered to borrowers, over and above the amount disbursed through their existing loans. Many banks, housing finance companies and other non-banking financial companies offer this facility on some of their loans. However, top-up loans are not available to all borrowers.

To be eligible for a top-up loan, you need to have an existing relationship with the lender, a good credit score, and a solid repayment history. These factors work in your favour and allow the lender to trust you.

 

3. Prepayment of a loan

When you avail a loan, the repayment tenure is predetermined. Loan prepayment is a facility that allows you to repay your loan before the actual tenure comes to an end. Prepayment may be allowed in part or in whole. Generally, banks and other financial institutions also charge a nominal amount for prepayment, because they lose out on the interest for the remaining tenure.

The advantage for you, the borrower, is that you get to save on interest payments. Let’s take up Sunil’s example again to understand this better. Assume Sunil has taken a loan with the following particulars.

 

Particulars

Loan details

Amount borrowed

Rs. 30,00,000

Interest rate

15%

Repayment tenure

20 years

Total amount payable

Rs. 94,80,886

Total interest amount

Rs. 64,80,886

 

Now, say Sunil decides to prepay the loan completely after 12 years. Let’s see how much he would have to pay, and how much interest he could save.

 

Particulars

Loan details

Opening balance as at the end of 12 years

Rs. 22,01,326

Amount Sunil will prepay

Rs. 22,01,326

Amount of interest saved

Rs. 15,91,029

 

4. Co-applicant

A co-applicant is a person who applies for a loan along with the primary borrower. In other words, the borrower and the co-applicant both avail the loan. Co-applicants are generally relevant in the context of home loans. Having a co-applicant gives you many advantages, like eligibility for a higher loan amount and lower interest rates.

 

5. Loan refinancing

Loan refinancing is the process of availing a new loan to pay off one or more previous outstanding loans. In other words, the terms of your existing loans, including the interest and the payment schedules, are revised. Loan refinancing can be done either through the same bank from which you had availed your existing loan(s), or through a different bank.

By opting for loan refinancing, you can enjoy lower interest rates or even lower monthly payments. You can also use loan refinancing to consolidate multiple loans.

 

6. Collateral

Collateral is any asset or source of income that you can pledge as a security when you avail a loan. Not all loans require collateral, though. Lenders look for this only when you avail a secured loan, like a home loan or a two-wheeler loan. This collateral allows the lender to cover their risk, in case you default on your payments.

Some loans like personal loans are unsecured, meaning you do not need to offer any security as collateral. However, to compensate for this increased risk, the interest rate charged may be higher.

 

7. Loan moratorium

A loan moratorium is a specific period during which a borrower is not required to make any repayments on the loan availed. Think of it like a holiday from your loan. Banks and other financial institutions generally offer a loan moratorium for a brief period after you’ve availed a loan, so you don’t have to start repaying right away.

 

Summing up

See how easy this was? You’re now in a better position to understand the terms and conditions of any loan you may be interested in. Understanding financial jargon like this helps you make well-informed decisions about your borrowings. It may seem daunting, at first. But once you get to know the meaning of these words, you’ll see that they’re not so complex, after all.

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Disclaimer: This Article is for information purpose only. The views expressed in this Article do not necessarily constitute the views of Kotak Mahindra Bank Ltd. (“Bank”) or its employees. Bank make no warranty of any kind with respect to the completeness or accuracy of the material and articles contained in this Newsletter. The information contained in this Article is sourced from empaneled external experts for the benefit of the customers and it does not constitute legal advice from Kotak. Kotak, its directors, employees and the contributors shall not be responsible or liable for any damage or loss resulting from or arising due to reliance on or use of any information contained herein.