18 Most Significant Financial Terms You Should Know
Perhaps, you are or are not familiar with most financial terminologies. Do financial lingo scare you? Probably, you would like to expand your financial words bank. Or perhaps you are open to a refresher course. This post is for you. There are numerous financial terms. But this post will capture only the relevant terms that you are likely to come across. You will find a brief yet precise definition of each. In case you do not speak financial terms, you do not need to worry. This article will help you understand the most popular terms that may proof a to be a mystery. .
Personal finance can at times proof to be tricky, and you may feel as if you are learning an entirely new language. Here, you’ll learn the terms that are a must-know. They are the terms that you will never miss to meet in all aspects of finance. In addition, you will be able to contribute in financial discussions and also manage your finances better.
Understanding the common financial terms not only make you knowledgeable but also make you a better personal finance manager, by your own rights. Additionally, you are able to understand financial contracts. So any time you see an advert, you’re able to make a sound decisions.
Also referred to as shares or equities, stocks provide you with ownership of part of a company. When you buy stocks, you become one of the shareholders in that company. That gives a right you a claim on the company’s earning and assets. There are two major types of stocks:
- Common stocks give you the right to vote at shareholders meetings. You are also eligible for dividends. You will also be lowest on the totem pole in corporate ownership structure.
- Preferred stockholders have an advantage since they can claim earnings before the common shareholders. The disadvantage of preferred shareholders is that they have no voting rights.
Amortization involves making agreed regular monthly payments of the principal and interest. Suppose you buy a house mortgage loan with an amortization period of 35 years. The loan attracts an interest paid every month together with principal amount. To pay the loan faster, you need to choose shorter amortization. But this option requires that you have the ability to pay higher prices.
ARM refers to the acronym for the adjustable rate mortgage. It is a type of mortgage. The interest you settle on the outstanding balance falls and rises depending on a particular benchmark. Often, the ARM begins at a fixed rate for a short timeline. Then the rates are set on an annual basis depending on the parameter plus the extra amount. A good example is whereby you have a five-year ARM. You will always have a set rate for the first five years. The rates, after that change depending on the mortgage terms. This implies that the monthly mortgage payment will start out low. But will later rise after the collapse of the fixed rate period.
Escrow is an account held by an impartial third party on behalf of the two sides during a transaction. The buyer deposits an agreed amount in an escrow account during the home buying process. But the seller will access it on two conditions:
- After meeting the contract terms
- Sale is complete
The money for use in paying your homeowner’s property taxes and insurance is held in an escrow account. Consider depositing money into an escrow account every month. This will make sure that you have enough cover to those bills when your taxes and premiums are due.
Fixed Rate Mortgage
This is the mortgage that holds a fixed interest rate for the entire period of the loan. With this mortgage, no need to worry about an increase in payments whenever the interest rates rise. But it has a disadvantage. You’ll still pay an expensive mortgage even if the interest rates drop.
Defined Benefit Plans
They are also referred to as the employer-sponsored retirement plans. This is where the employer promises a certain retirement benefits. The formula includes the history of the employee earnings, age, and the employment duration. Because of the high costs, the employer may contribute to the plan or not. Most companies have stopped offering this type of benefit.
Defined Contribution Plans
Defined Contribution Plans refers to the retirement plan a company may decide to offer as a benefit to their employers. In this plan, the worker or the employer or both do contribution on a regular basis. The most common forms of a defined contribution plan are the 401(k) and the 403(k). The money, which gets into these accounts, gets deducted from the pretax earnings. Hence, there is no need to pay the total amount you put away on an annual basis. The qualified withdrawals are always taxed as ordinary income. Qualified withdrawals refer to the withdrawals usually done when you are 59 ½ years old or older.
Compound Interest is the interest that you earn on the amount you deposit. Or any interest which could have accrued over a given period when you are either saving or investing. It is the interest charged on the original amount given as the loan. Also, the interest amount added to the outstanding balance over a specified period.
FICO Score refers to a number which is common to banks and other financial institutions. It is usually used to measure the worthiness of the borrower’s credit. FICO stands for Fair Isaac Corporation. This is the company that came up with the formula for calculating the credit score. Factors considered include payment history, the total amount owed and the credit history length. The range of FICO scores is from 300 to 850. The higher the credit score, the better the terms you will be awarded on your next credit card or loan. Individuals who have a credit score of below 620 may find it difficult in securing a loan in the future.
The Net Worth is the difference between the assets and liabilities. You arrive at net worth by getting the sum of all the investment or monies you have. Assets include the current value of your car and home. Add any investments such as retirement benefits, savings accounts. Then subtract all your debts including the bank credit balances, mortgage balance and any other obligations or loans. The net worth figure will assist you in taking the pulse of your health.
It involves checking the proportion of your portfolio to dedicate to your various asset classes. It bases the allocation on your time horizon, personal risk tolerance and goals. The cash, stocks, bonds or cash equivalents are the three major asset type classes. Each of them reacts in a different manner to the economic conditions and market cycles. For instance, the stocks have the capability of providing a high growth over a period of time. But, they may at times be volatile.
Bonds are popularly referred to as fixed- income securities, bonds are debt investments. When you buy a bond, you lend money to an entity for a given period and at a fised rate. The debtors could be a corporation or government for a specified period of time at a fixed rate. You’ll then receive periodic interest payments over a specified timeline.
It refers to the increase in the value of an investment or an asset above the initial buying price. The gain will only be on paper until such a time when the asset is sold. By contrast, a capital loss refers to a decrease in the investment’s or asset’s value. When you sell an investment, you pay taxes both on long-term capital gains and short term capital gains. The capital loss will be able to help you reduce your taxes.
Rebalancing refers to the buying or selling process of securities over a period of time. The goal is to maintain your desired allocation of an asset. For example, supposes 60 % stocks is your target allocation, 20% bonds and 20% cash. If the performance of the stock market the previous year was excellent, you stand to benefit. Your allocation shifts to 70% stocks, 20% percent cash and 10 % bonds. You will have to sell some of your stocks and re invests on the proceeds of the bonds to rebalance your portfolio.
AGI is an abbreviation for adjusted gross income. To arrive the adjusted gross income you take you gross income minus some IRS-specified deductions.
This refers to an individual who financially depends on your income. It can either be an adult relative or a child you support. Additionally, you can always claim a tax exemption or tax credit for these dependents whenever you are filing for your tax.
Itemized deduction refers to a qualified expense that IRS permits you to subtract from your gross income. It has the impact of reducing your taxable income. The itemized deductions include the dental, medical costs, the paid mortgage interest. These deductions are indicated on the IRS schedule form.
A standard deduction refers to the amount used to reduce your taxable income. That is in case you decide not to itemize your deductions. The tax filing status determines the standard deductions. It is what the government uses in ensuring that not all your income is subject to tax.
In conclusion, the financial terms above are not just the only ones. There are thousands if not thousands of such terms. This means, you should try to understand as many as possible. The current trend in the business world demands that you understand some common financial terms. There is no way you can manage your finances better if you have no clue where to invest it. While this post covers most of the most popular financial terminologies, it does not exhaust. Familiarize yourself with the terms to make the right financial moves. Be sure to understand the meaning of other financial terms. Doing so would remove any doubts that you have and guarantee you better management of your finances.