The term loan refers to a sum of money that is borrowed from a lender, typically a financial institution, with the agreement that it will be paid back with interest over a specified period of time. Loans can be used for various purposes, such as purchasing a home, financing education, or starting a business.

Definition:

The loan term is the period of time it takes to repay the loan in full when the borrower makes regular payments. The time it takes to pay off the debt is referred to as the loan term. Loans can be short-term or long-term.

How Does a Loan Term Work?

When you take out a loan, the lender usually sets the required monthly payment, such as a 60-month car loan. This payment is calculated so that the loan is paid off gradually over the term of the loan. The final payment will be exactly what you owe at the end of the fifth year. This process of repayment is called amortization.

The loan term affects both the monthly payment and the total interest costs. A long-term loan means you’ll pay less in principal each month because the total amount borrowed is spread over a longer duration, making it tempting to opt for the longest term loan available. However, a longer term also leads to higher interest costs over the life of the loan.

Other Types of Loan Terms

Loan terms can also be features of the loan that are specified in the loan agreement. When you borrow money, you and the lender agree to specific terms – the “terms” of the loan – when you borrow the money. The lender provides a sum of money and you repay that amount according to an agreed-upon schedule. Both of you have rights and responsibilities according to the loan agreement if something goes wrong.

Some common terms include the interest rate, monthly payment requirements, penalties associated, or special repayment provisions.

Loan Terms vs. Loan Periods

Loan periods are also related to time, but they are not the same as the loan term. The period can be the shortest interval between monthly payments or interest calculations, depending on your specific loan details. In many cases, it is one month or one day. For example, you might have a loan with an annual rate of 12%, but the periodic or monthly rate is 1%.

The loan term can also refer to the times when the loan is available. For student loans, the loan period may be the fall or spring semester.

Impact of Loan Terms

The interest rate describes how much interest lenders charge on your loan balance for each period. The higher the rate, the more expensive the loan becomes. You may have a fixed-rate loan that remains constant over the life of the loan, or a variable rate that can change in the future.

Monthly payments are typically calculated based on the loan term and your interest rate. There are several ways to calculate the required payment. Credit cards may calculate the monthly payment as a small percentage of the outstanding balance.

It is often wise to minimize interest costs. You will lose less money in interest costs if you can pay off your debts faster within a shorter loan term. Check if there are any penalties for early loan repayment or for making additional payments, so you can pay it off before the end of the specified loan term. Paying more than the minimum is smart, especially for high-cost loans like credit cards.

Some loans do not allow for gradual repayment of the balance. These are called “balloon loans.” You pay only interest or a small portion of the loan balance during the loan term. You will then have to make a large balloon payment or refinance the loan at some point.

Source: https://www.thebalancemoney.com/loan-time-period-specifics-315513