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What Exactly Is A Loan Term And What Does It Mean?

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Published onAugust 24th, 2021
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Signing your loan documents can be an intimidating endeavor, especially if you’re unfamiliar with the jargon. After all, financial lingo can be a tad confusing from time to time.

There are many phrases that sound extremely similar, but that actually 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 can be defined as the length of time it takes for a loan to be paid off completely when the borrower is making regular scheduled payments. These loans can either be short-term or long-term, and the time it takes to have the debt paid off can be referred to as that loan’s term. All the most common loans will include a term, from student loans to personal loans and auto loans, and of course mortgage loans.

The fact that the phrase “loan terms” is verbiage often used as umbrella language 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.

It’s important to note that 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 take a 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, as well as 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 loan
  • Monthly payment
  • Fees
  • 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 before signing on the dotted line 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 if done correctly. Oftentimes, lenders 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 significantly help you due to mortgage loans being pricey 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 Loan Important?

The length of the 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 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.

Term

Monthly Mortgage Payment

Total Interest Costs

15-Year

$3,698.44

$165,719.13

20-Year

$3,029.90

$227,176.40

25-Year

$2,639.18

$291,755.26

30-Year

$2,387.08

$359,347.53

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 that, when choosing the term of your loan, 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 annual percentage rate 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 and identify the information essential to your loan.

For further insight into loan terms and other relevant topics, you can explore more mortgage-related articles in our Learning Center, or speak to a Home Loan Expert to learn more about your options.

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Kevin Graham

Kevin Graham is a Senior Blog Writer for Rocket Companies. He specializes in economics, mortgage qualification and personal finance topics. As someone with cerebral palsy spastic quadriplegia that requires the use of a wheelchair, he also takes on articles around modifying your home for physical challenges and smart home tech. Kevin has a BA in Journalism from Oakland University. Prior to joining Rocket Mortgage, he freelanced for various newspapers in the Metro Detroit area.