What Exactly Is A Loan Term And What Does It Mean?
There are many phrases that sound extremely similar but have nuanced meanings. The phrase “loan terms” can cause some confusion because it’s often used to refer to multiple aspects of your mortgage.
If you’re feeling overwhelmed, there’s no need to worry. A loan term can easily be understood with the right guidance and definition. Let’s break it all down.
What Is A Loan Term?
Before we get too deep into loan terms, it’s important to understand what exactly a loan term is. A loan term is defined as the length of the loan, or the length of time it takes for a loan to be paid off completely when the borrower is making regularly scheduled payments.
These loans can either be short-term or long-term, and the time it takes to pay off debt from the loan can be referred to as that loan’s term. All the most common loans will include a term, including student loans, personal loans, auto loans and different types of mortgage loans.
The fact that the phrase “loan terms” is often used as umbrella language to describe different mortgage-related words is the primary reason why so much confusion exists around this topic. “Loan term” is just the lingo used to describe the broad aspects of your mortgage. Therefore, depending on the context, it may refer to the lifespan of your loan, or the terms and conditions involved in borrowing funds.
If you’re ever uncertain about anything regarding your mortgage, it’s best to ask your lender to clarify.
Loan Term Example
To better understand what a loan term is, let’s look at an example. Let’s say you have a 15-year fixed-rate mortgage. The loan term will then be 15 years. During this time, the loan must be paid off or refinanced during the term. Your loan can last for any length of time – it just needs to be agreed upon by the lender and you as the borrower.
Loan Terms And Conditions
The terms and conditions of a loan are the provisions that are agreed to by the lender and borrower. These provisions, which are provided to the borrower in the loan contract or mortgage note, describe the characteristics of the loan and the rights and responsibilities of the parties involved. The loan terms that are most important to be aware of are:
- Term length or length of the loan
- Monthly payment
- Annual percentage rate (APR)
- Due date
- Interest rate and whether it will adjust
The terms and conditions also outline fees and penalties associated with the loan. They’ll disclose the fees you’ll incur if you make a late payment, and potentially indicate how long of a grace period you’ll be given before you’re charged a late fee. The terms will also establish whether you’ll be charged any prepayment penalties for making extra payments or paying off your mortgage ahead of schedule.
The loan’s terms and conditions will provide you with insight as to what you should expect when taking out a loan. As a result, you must take the time to read through them to fully understand what you’re signing up for.
Can You Negotiate Your Loan Terms?
A major benefit of understanding loan terms is that you can negotiate them with lenders to get a better deal. Lenders often have a prequalification process for a mortgage to see what the terms will be before you submit your application. If you prequalify with a few different lenders, you’ll be able to compare the different terms with one another to determine the best option for you.
Once you’ve decided on the right loan, you’ll be able to take that offer back to the lender and see if you can negotiate with them to receive an even better offer. Negotiating with a lender for a mortgage loan can help you in the long run as mortgages tend to become more expensive over time.
That’s why it’s important to do your research – you could end up saving hundreds or even thousands of dollars as you pay your mortgage off if negotiated properly from the start.
Why Is The Length Of The Loan Important?
The length of the loan term, or how much time the borrower has to repay the loan, has a huge impact on a mortgage’s affordability. The term determines not only how long the borrower will be in debt, but also how high the borrower’s monthly loan payments and overall loan costs will be.
In general, shorter terms translate into higher monthly mortgage payments. But longer terms lead to higher costs over the life of the loan.
A borrower who chooses a 15-year fixed-rate mortgage may have to spend more money to pay off their principal and interest each month. However, by the time their loan matures, they’ll ultimately have spent less on interest.
On the other hand, a borrower who obtains a 30-year fixed-rate mortgage may have access to more spending money since their monthly payments are lower. Over time, they end up paying more for the privilege of borrowing funds.
Let’s take a closer look at how the term a borrower chooses affects both their monthly mortgage payments and their total interest costs.
Monthly Mortgage Payment
Total Interest Costs
Note: The information on this chart is based on a conventional fixed-rate mortgage for a $500,000 loan with an interest rate of 4%.
Although you’d save $1,311.36 a month by selecting a 30-year mortgage instead of a 15-year, you’d still be paying an extra $193,628.40 more in interest over the course of the loan.
It’s important when choosing the loan amount and the term of your loan that you decide if you want to make smaller monthly payments or spend less on your mortgage over the long run. As you make the decision, you should be sure to compare both the interest rate and APR for each term you’re considering. Comparing these rates will help you gain a better understanding of the true cost of your loan options.
The Bottom Line: It’s Important To Learn What A Loan Term Means
Don’t let a little jargon get in the way of understanding your loan documents. Remember that “loan terms” is just a phrase often used to address the overarching aspects of your mortgage.
You may hear the phrase used to discuss the term of your loan – that is, the length of time you have to repay the borrowed funds – or the terms and conditions associated with borrowing them. Your terms and conditions will tell you all you need to know about the ins and outs of your mortgage, so you’re fully aware of what you’re agreeing to when you sign your contract.
Purchasing a home and obtaining a mortgage are complex processes, and it’s natural to be a little confused by them at first. We’re here to help you parse through this industry language, identify the information essential to your loan and loan term, and learn everything you need to know about the mortgage loan process.
If you’re ready to move forward with a mortgage, you can get started online.