Financial Word of the Week: Principal and Interest
What are Principal and Interest?
As you pay down debt over time, your payments go towards principal and interest. Principal describes the amount remaining on the original amount loan or line of credit. Interest is the cost of borrowing money over time.
What does an interest-only loan mean?
With an interest-only loan, you can borrow money and any payments that you make during the initial period go towards paying interest costs, but do not reduce the principal. When the interest-only period ends, the loan matures or comes due. At maturity, depending on your contract with your lender, you will either need to begin making payments on principal and interest or you will need to pay back the full principal amount, called a balloon payment. Today, Home Equity Lines of Credit (HELOCs) make up a large portion of interest-only lending. As a borrower, you should carefully read the documentation on any loan and make sure that you can afford the payments when the loan comes due.
Why should I care? It’s all going to the loan, right?
First, some loans may have tax advantages, such as student loans, mortgages, and some HELOCs. You should always consult your tax advisor on what will count toward a tax benefit. One common form of tax advantage is a tax deduction or credit for some or all of your interest payments. Second, if you want to pay down your loans faster, make sure your extra payments go towards principal. By paying down the principal, you will owe less interest each payment and pay your loan off sooner.
UMB Financial Corporation (Nasdaq: UMBF) is a diversified financial holding company headquartered in Kansas City, Mo., offering complete banking services, payment solutions, asset servicing and institutional investment management to customers. UMB operates banking and wealth management centers throughout Missouri, Illinois, Colorado, Kansas, Oklahoma, Nebraska, Arizona and Texas, as well as two national specialty-lending businesses. Subsidiaries of the holding company include companies that offer services to mutual funds and alternative-investment entities and registered investment advisors that offer equity and fixed income strategies to institutions and individual investors.