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Interest Rate Basics

By Malcolm Rivers

Interest rates are extremely important. Interest rates dictate the speed at which borrowers are able to pay back the loans they've taken out. Taking out a loan with a less favorable interest rate can increase the amount of money owed by a borrower. Much of the recent American financial crisis was based on predatory lending. Lenders engaged in predatory practices gave loans to borrowers whose financial histories demonstrated that they'd struggle to be able to pay them back. In exchange for obtaining loans despite historically damaged credit, borrowers accept less favorable interest rates. This caused many people to default on, or to be unable to pay back, their loans because the interest rates were so high. Their example should give you an idea of how important understanding interest rates can be. There are 3 major pieces to understanding the basics of interest rates; what they are, how they can affect you, and using them to benefit you financially.

What Interest Rates Are

Interests rates are the rates at which a borrower is required to pay a lender interest on the money they owe. There are two major ideas in the concept of debt which influence interest rates; the principal and the interest. The principal is the bulk of the loan, it's the amount borrowed from the lender at the outset. Interest is the term for the fees that a lender charges the borrower for borrowing funds from them. Interest is usually seen in the form of a percentage of the principal owed, paid at a given rate. This rate is known as the interest rate.

How Interest Rates Affect You

Interest rates are the reason that college students (should) fear loans. Interest rates are the reason that homeowners must watch lenders carefully when taking on mortgages. Interest rates can affect you significantly. If you have favorable, low interest rates with fewer fees and requirements, interest rates can make monthly payments more easily manageable and help you pay off your principal more quickly. If you have high interest rates, you will have difficulty just keeping up with payments. High interest rates frequently end up causing someone to be perpetually treading water; paying out of pocket to keep up with interest payments without putting any sort of dent in the principal. If interest rates are high enough, they may cause a borrower to have difficulty keeping up with payments and force them to default on the loan, badly damaging their credit.

Interest rates are some of the most important things to understand about loans. Interest rates can be beneficial to you as long as you understand them and know how they can affect you when you're evaluating a potential loan. Use these tips to understand the basics of interest rates to keep yourself and your family financially secure. As always, do your own research when considering taking out a loan and the loan's interest rate. Good luck!

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About The Author

In 2005, Malcolm attended Harvard University where he received his Bachelors of Arts...

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