Understanding financial terminology

January 25th, 2011 Doug Benjamin

Financial terminology can be confusing and intimidating – especially if you’re just entering the world of finances and investments.

To help you get a grip on some of the most common words and phrases, we’ve put together a little cheat sheet for common financial terminology.

Accrued Interest – Interest that accumulates over time on a debt that you owe or on the savings that you have.

Annual Percentage Rate (APR) – The rate of interest (in terms of a percent, such as 9.4%) being charged for a loan over a year’s time. The APR includes interest, transaction fees and service fees. Look for APRs on such things as credit cards, student loans and car loans.

Appreciate – To grow in value. Usually a term used in relation to investments (stocks) or collectibles (old stamps, baseball cards, rare coins, etc.) that are now worth more than you originally paid for them.

Asset – Any item of value that you own: house, car, property, jewelry, stocks, bonds, money in savings, etc.

Balance – 1) In reference to loans, the balance is the difference between the original amount owed and the amount paid on the loan to date. In other words, the money you still have to pay. 2) In reference to checkbooks, balancing means to account for all money that came into and went out of your account. 3) In reference to savings, your balance is what is left in your savings account after you deposit or withdraw money.

Bankruptcy – A legal procedure governed by federal law that helps consumers who have too much debt. There are two bankruptcy options for consumers – Chapter 13 reorganization and Chapter 11 liquidation.

Blue Chip Stock – A name given to the stocks of major corporations. The name comes from the most highly-valued poker chip, the blue chip.

Bond – A kind of investment in which you lend money to a corporation or government for a certain amount of time and at a certain interest rate. You receive regular interest payments, also known as a coupon. At the end of the bond’s term, the corporation or government returns to you the amount you originally lent, also known as the bond’s face value.

Budget – A plan you create for controlling spending and encouraging saving.

Certificate of Deposit – A type of investment that requires you to invest money for a certain length of time and guarantees the same rate of return (interest) for that entire period. CDs usually require a minimum deposit.

Checking Account (or Share Draft Account) – An account where you deposit money to fund the purchases you make on your debit card or checks you write. A credit union checking account is called a share draft account.

Collateral – Assets pledged as security for a secured debt. If you do not pay a debt that you have collateralized, the creditor can take ownership of the collateral.

Collection Agency – A business that collects past due debts for other businesses, as well as individuals. Most collection agencies get paid for their services by taking a percentage of what they collect for their clients.

Compound Interest – Interest on an investment that is calculated not only on the amount originally invested, but also on any interest the investment has already earned. For example, if you invest $100 dollars in a savings account and get 5% interest, after one period you will have $105. During the next period, you will earn interest on the $105 (not just on the $100 originally invested) and end up with $110.25.

Credit – A loan that enables people to buy something now and to pay for it in the future.

Credit Agreement – A contract between a borrower and a creditor that details the amount borrowed, the applicable interest rate and all other terms of the credit.

Credit Limit – The highest amount you may charge on a credit card. Your limit is set by your credit card company’s opinion of your ability to handle debt.

Credit History – A record of your borrowing and paying habits. Credit reporting companies track your history and supply this information to credit card companies, financial institutions and other lenders.

Credit Rating – A “score” that a credit agency assigns you based on your ability to manage credit responsibility. Your credit rating depends upon factors such as on-time payments, age and amount of debt accumulated.

Creditor – A person or business to whom you owe money.

Debt – Money or goods you owe.

Debt Consolidation – The process of taking out a larger loan to pay off one or more smaller loans.

Debit Card (or Checking Card) – A card like a credit card that you can use to pay for things directly from your checking account without paying interest. You have to have the funds in your account in order to spend them with your debit card.

Deposit – To put money into a checking, savings or other investment account.

Dividend – A payment made by a company to a stockholder to share in the company’s profits. In a credit union, a dividend is the interest paid on your savings or share account.

Discount – To reduce from an original price or an item’s full worth.

Earned Income – Wages paid in exchange for work.

Effective Annual Rate (EAR) – The compound interest rate plus fees calculated across a year.

Entrepreneur – A person who assumes the risk to start a business with the idea of making a profit.

Expenses – Things you pay money for – both needs and wants.

Finance Charge – Another term for the amount of interest you pay a company when you do not pay your debt in full each month, as well as the amount of interest you pay on your outstanding debt. The finance charge is expressed as a percentage.

Fixed Expenses – Expenses that stay basically the same from month to month, such as rent, transportation and tuition.

Foreclosure – The process whereby a mortgage lender or another creditor with a lien on your home or on some other piece of real estate that you own takes that asset the terms of your agreement with your creditor was broken.

Grace Period – The time in which you can pay your account balance in full without incurring finance charges.

Income Tax – Money that wage earners pay the government each year. The amount of the tax depends upon how much income you earn.

Insufficient Funds – Insufficient funds means you did not have enough money to cover an expense. Usually checks that bounce are returned stamped with the phrase “insufficient funds.” The amount of the check was larger than the balance in the checking account.

Interest – The amount paid by a borrower to a lender for the privilege of borrowing the money.

Interest Rate – The price paid for borrowing money, expressed as an annual percentage rate, such as 10.5%.

Invest – To put your money into CDs, money market accounts, mutual funds, savings accounts, bonds, stocks or objects that you hope will grow in value and earn a profit.

Loan – Money or an object that is lent with the understanding that the loan will be paid back, usually with interest.

Minimum Payment – The smallest payment you are required to make each month on a debt.

Mutual Fund – A savings fund that uses money from a group of savers to buy a wide range of securities, like stocks, bonds and real estate. This allows you to diversify your investments because you own small units of each of the fund’s investments.

Opportunity Cost – The next best alternative that is given up when a choice is made.

Penny Stock – A nickname for extremely low-priced stock, usually only a few dollars a share. These stocks are considered quite risky. They are priced low because they have not yet proven themselves in the market.

Periodic Rate – An interest rate that charges periodically. The terms of the change are spelled out in your credit agreement.

Principal – The amount of money you borrow. Principal does not include interest.

Profit – The money you’ve earned after you subtract a) any money you had to spend to make the product or perform the service, or  b) any taxes that had to be paid on your earnings.

Rate of Compounding – When an account compounds interest it does so in regular intervals. Compounding can take place annually, semi-annually, quarterly, monthly or daily. The more often interest is compounded the faster your money will grow.

Return – The amount of money you receive from a savings account or fund. The return is usually expressed as a percentage, such as “this account returns 6.3%.”

Risk – The likelihood that you will lose money on an investment.

Save – Holding onto your money for a future goal instead of spending it now. Saving is the opposite of spending.

Savings Account – A bank account that pays you interest for keeping your money in it.

Share – A unit of ownership in an investment or a company.

Shareholder – Someone who owns stock in a company.

Stock – A certificate representing a share of ownership in a company.

Stock Market – An organized way for 1) people to buy and sell stocks and 2) corporations to raise money. There are stock exchanges all around the world, but perhaps the best known are the New York Stock Exchange (NYSE), the American Stock Exchange (AYSE) and the National Association of Securities Dealers Automated Quotation System (NASDAQ).

Unearned Income – Income that is not the result of your labor, such as interest from a savings account or another kind of investment.

Unsecured Debt – A debt for which no assets are pledged to guarantee payment. The most common type of unsecured debt is credit card debt.

Variable Expenses – Spending that changes from month to month. For example, entertainment can be a variable expense. Depending on your preferences, the amount you spend on movies, CDs, video games and eating out will be different each month. With variable expenses, you have choices.

Withdraw – To take money out of an account.

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Doug Benjamin

About the author

Doug Benjamin is Senior Vice President at MidWestOne Bank. He works in the retail department, specializing in checking and savings accounts, consumer loans, auto loans and home equity loans.

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