Top 20 loan terms to know

We often get questions from business owners and our software partners about business financing terminology. There is a lot of jargon in lending! It can be challenging to keep track of the important terms and what they mean. We've put together a list of 20 of the top terms that people ask us about. As always, if you’d like to learn more about how Kanmon works with software platforms that support small and medium businesses, we’d love to hear from you!

Amortization
Amortization is the process of spreading out a loan into a series of fixed payments. Over the life of the loan, these payments will gradually cover both the principal and the interest, ultimately bringing the loan balance to zero.

Annual Percentage Rate (APR)
The annual percentage rate (APR) represents the comprehensive yearly cost of borrowing money. It includes not only the interest rate but also other associated costs such as origination fees and any other charges. The APR provides a more accurate picture of the loan's cost compared to just the interest rate. In some jurisdictions, lenders are required to disclose the APR for certain kinds of loans. Kanmon's goal is to provide full transparency to borrowers about the true cost of their loan and provides APR disclosures for all of our financial products.

Business credit score
A company’s creditworthiness is evaluated through a business credit score. Similar to a personal credit score, it's based on factors such as payment history and debt level but focuses on the business's financial history and behavior.

Debt Service Coverage Ratio (DSCR)
A business’s ability to use its operating income to cover its debt payments, including loan repayments and interest, is measured through the debt service coverage ratio. This is a key metric used by lenders to assess a business’s financial health.

Default
Default occurs when a borrower fails to meet the obligations of the loan agreement. This can include missing payments or violating other loan terms, and it often results in legal and financial consequences.

Equity
Equity represents the value a property owner has in an asset after subtracting any liabilities or loans against it. In simple terms, it's the portion of a property's value that the owner truly "owns." For instance, if you have a house worth $300,000 and you owe $200,000 on the mortgage, your equity in the house is $100,000. Equity can increase as you pay down your loan or as the value of the property appreciates.

Fixed rate
When the interest rate remains constant throughout the loan’s term, it’s considered a fixed-rate loan. This consistency ensures that your monthly payments remain unchanged, providing stability in your financial planning.

Hard credit inquiry
A hard inquiry occurs when a financial institution checks your credit report as part of the loan application process. This kind of inquiry can slightly reduce your credit score for a short period and is recorded on your credit report. During Kanmon's application process, prospective borrowers provide us consent to conduct a credit inquiry. This results in a "soft inquiry," which does not affect a borrower's credit score.

Interest rate
The percentage charged on the principal amount by the lender is called the interest rate of the loan. It represents the cost you pay for borrowing money. This rate determines the additional amount you'll pay over the life of the loan, separate from the principal.

Monthly payment
The amount you’re required to pay the lender each month is the monthly payment on the loan. This payment is a combination of principal and interest, calculated based on the loan amount, term, and interest rate.

Origination fee
Origination fee is a charge by a lender for processing a new loan application. It's typically a percentage of the total loan amount and covers the costs associated with creating and processing the loan.

Personal credit score
A personal credit score is a numerical representation of an individual's creditworthiness. It's calculated based on factors like payment history, amounts owed, length of credit history, and types of credit used. This score is crucial for lenders in assessing the risk of lending money.

Pre-approved offer
A pre-approved offer is a more advanced stage of the loan application process compared to a pre-qualified offer. It usually involves a more thorough review of your credit history and indicates that a lender is tentatively prepared to offer you a loan or credit under certain terms. Pre-approval is a stronger indication than pre-qualification that you will be approved for credit, but it is still subject to final verification of your application details.

Prepayment penalty
If a person plans to pay their loan off early, some lenders may charge a fee, which is called a prepayment penalty. It compensates the lender for the interest they won't receive due to the early repayment. Some lenders, like Kanmon, do not charge this fee.

Pre-qualified offer
When you receive a pre-qualified offer for a loan or credit, it indicates that a lender has conducted a preliminary review of your creditworthiness. This initial assessment is typically based on a limited amount of information, and it results in an estimate of the credit or loan terms you might qualify for. It's important to note that pre-qualification is not a guarantee of approval.

Principal
The principal of a loan is the actual amount borrowed. It's the base figure on which interest is calculated. When you repay an installment loan (like a term loan, for example), part of your payment goes toward reducing the principal, while the rest covers the interest.

Refinancing
Refinancing a loan involves taking out a new loan to replace an existing one. This is often done to take advantage of more favorable terms, such as a lower interest rate, a different loan duration, or other improved conditions. People might choose to refinance in order to reduce their monthly payments, adjust the length of their loan, or consolidate several debts into a single loan.

Term
The period in which you have to repay a loan is called the term. Depending on the type of loan, this can range from short periods (like a few months) to several years or more.

Underwriting
Underwriting in the context of lending is the detailed process where a lender evaluates the risk of giving a loan to a borrower. This process involves assessing various aspects such as the borrower's credit history, income, and the amount they wish to borrow. The underwriter's job is to determine whether the borrower is likely to be able to repay the loan on time and in full, and under what terms the loan should be offered.

Unsecured loan
An unsecured loan is a type of loan that doesn't require collateral, such as property or other assets, for approval. Instead, underwriting more heavily depends on the borrower's creditworthiness and the cash flows of the business.