How Interest Works With Everyday Loans

What Is Interest?

Interest is the cost of using somebody else’s money. When you borrow money, you pay interest. When you lend money, you earn interest.

There are several different ways to calculate interest, and some methods are more beneficial for lenders. The decision to pay interest depends on what you get in return, and the decision to earn interest depends on the alternative options available for investing your money.

What Is Interest?
Interest is calculated as a percentage of a loan (or deposit) balance, paid to the lender periodically for the privilege of using their money. The amount is usually quoted as an annual rate, but interest can be calculated for periods that are longer or shorter than one year.

Interest is additional money that must be repaid — in addition to the original loan balance or deposit. To put it another way, consider the question: What does it take to borrow money? The answer: More money.

When borrowing: To borrow money, you’ll need to repay what you borrow. In addition, to compensate the lender for the risk of lending to you (and their inability to use the money anywhere else while you use it), you need to repay more than you borrowed.

When lending: If you have extra money available, you can lend it out yourself or deposit the funds in a savings account (effectively letting the bank lend it out or invest the funds).

In exchange, you’ll expect to earn interest. If you are not going to earn anything, you might be tempted to spend the money instead, because there’s little benefit to waiting (other than saving for future expenses).

How much do you pay or earn in interest? It depends on:

1.The interest rate
2.The amount of the loan
3.How long it takes to repay
A higher rate or a longer-term loan results in the borrower paying more.

Example: An interest rate of five percent per year and a balance of $100 results in interest charges of $5 per year assuming you use simple interest. To see the calculation, use the Google Sheets spreadsheet with this example. Change the three factors listed above to see how the interest cost changes.

Most banks and credit card issuers do not use simple interest. Instead, interest compounds, resulting in interest amounts that grow more quickly (see below).

Earning Interest
You earn interest when you lend money or deposit funds into an interest-bearing bank account such as a savings account or a certificate of deposit (CD). Banks do the lending for you: They use your money to offer loans to other customers and make other investments, and they pass a portion of that revenue to you in the form of interest.

Periodically, (every month or quarter, for example) the bank pays interest on your savings. You’ll see a transaction for the interest payment, and you’ll notice that your account balance increases. You can either spend that money or keep it in the account so it continues to earn interest. Your savings can really build momentum when you leave the interest in your account – you’ll earn interest on your original deposit as well as the interest added to your account.

Earning interest on top of interest you earned previously is known as compound interest.

Example: You deposit $1,000 in a savings account that pays a five percent interest rate. With simple interest, you’d earn $50 over one year. To calculate:

Multiply $1,000 in savings by five percent interest.
$1,000 x .05 = $50 in earnings (see how to convert percentages and decimals).
Account balance after one year = $1,050.
However, most banks calculate your interest earnings every day – not just after one year. This works out in your favor because you take advantage of compounding. Assuming your bank compounds interest daily:


Your account balance would be $1,051.16 after one year.
Your annual percentage yield (APY) would be 5.12 percent.
You would earn $51.16 in interest over the year.
The difference might seem small, but we’re only talking about your first $1,000 (which is an impressive start, but it will take even more savings to reach most financial goals).

With every $1,000, you’ll earn a bit more. Over time (and as you deposit more), the process will continue to snowball into bigger and bigger earnings. If you leave the account alone, you’ll earn $53.78 in the following year (compared to $51.16 the first year).

See a Google Sheets spreadsheet with this example. Make a copy of the spreadsheet and make changes to learn more about compound interest.

Paying Interest
When you borrow money, you generally have to pay interest. But that might not be obvious – there’s not always a line-item transaction or separate bill for interest costs.

Installment debt: With loans like standard home, auto, and student loans, the interest costs are baked into your monthly payment. Each month, a portion of your payment goes towards reducing your debt, but another portion is your interest cost. With those loans, you pay down your debt over a specific time period (a 15-year mortgage or 5-year auto loan, for example). To understand how  these loans work, read about loan amortization.

Revolving debt: Other loans are revolving loans, meaning you can borrow more month after month and make periodic payments on the debt. For example, credit cards allow you to spend repeatedly as long as you stay below your credit limit. Interest calculations vary, but it’s not too hard to figure out how interest is charged and how your payments work.

Additional costs: Loans are often quoted with an annual percentage rate (APR). This number tells you how much you pay per year and may include additional costs above and beyond the interest charges. Your pure interest cost is the interest “rate” (not the APR). With some loans, you pay closing costs or finance costs, which are technically not interest costs that come from the amount of your loan and your interest rate.

Learn How Loans Work Before You Borrow

When you borrow money, it’s important to know how loans work. With a better understanding of loans, you can save money and make better decisions about debt - including when to avoid it. Learn how loans work before you start borrowing.

The Cost of Money.
What does it take to get money? More money. When you borrow, you have to pay back the amount you borrowed plus interest. You may also have to pay fees.


Costs are a key part of understanding how loans work and which one to choose; in general it’s best to minimize costs, but costs are not always easy to understand. Lenders don't often show exactly how loans work and what they cost, so it pays to run the numbers yourself.

For most loans, a basic Loan Amortization Calculator will illustrate how things work. If you really want to play with the numbers, use a spreadsheet to see what happens when you change the variables.

See: Excel Loan Calculators, or Calculate Loans From Scratch.

Costs can be tricky, so be sure to consider interest rates and transaction fees as you study how a loan works.

How Loans Work With ‘No Closing Costs’
Annual Percentage Rate (APR)
Paying Down the Loan Balance
It’s only a loan if you repay it. As you figure out how loans work, you’ll see that most loans get paid off gradually over time. Each monthly payment is split into two parts: a portion of it repays the loan balance, and a portion of it is your interest cost.

An amortization table shows how this works, and how interest costs go down over time.

How Amortization Works
A loan may or may not have a "term" - a length of time over which you repay it. Some mortgages last for 30 years, while other loans may only last 3 years. Credit cards are "revolving" loans, meaning you can borrow and repay as many times as you want without applying for a new loan.


The term affects how your loan works; shorter terms require larger payments.

Qualifying for a Loan
To get a loan you’ll have to qualify. Lenders only make loans when they think they’ll be repaid. Your credit is important in helping you qualify, since it shows how you’ve used loans in the past. Good credit means you’re more likely to get a loan at a reasonable rate. You may also need to show that you have enough income to repay the loan.

How Credit Scores Work
How Debt to Income Ratios Work
If you don’t have strong credit or if you’re borrowing a lot of money, you may also have to secure the loan with collateral. This allows the lender to take something and sell it if you’re unable to repay the loan. You might even have to have somebody with good credit co-sign the loan, which means they’ll promise to repay it if you can’t.

How Loans Work in Practice
Now you know more about borrowing in general, but how do loans work in everyday life? When you want to borrow, you visit with a lender and apply for a loan. Your bank or credit union is a good place to start; you can also work with specialized lenders like mortgage brokers and peer to peer lending services.

How Peer to Peer Lending Works
After you provide information about yourself, the lender will evaluate your application and decide whether or not to make the loan.

If you’re approved, the lender will send funds to you (or it may go directly to another person - somebody you’re buying a house from, for example). Shortly after funding, you’ll start to repay - usually monthly.

If you want to save money, you can generally repay loans early. Figure out how your loan works to see if there’s any cost to prepay, and make sure it makes sense before doing so.

Government P3 Lending Program

Government P3 Lending Program For Filipinos From Php5, 000 to Php100, 000 with No Collateral

Great news for Filipinos looking to start a business. The government launched a lending program called Pondo sa Pagbabago at Pag-asenso (P3).

They started the program last March and is ongoing. As per earlier reports, they will lend money to 10, 500 micro, small and medium entrepreneurs (MSMEs) this year alone. “The P3 is designed to bring down the interest rate at which micro-finance is made available to micro enterprises,” said Trade Secretary Ramon Lopez.

So who can borrow from this lending program?

With a Php19 billion worth of funds for the next five years, P3 aims to finance micro, small, and medium businesses. Furthermore, they want to eliminate the 5-6 lending that charges 20% of interest per month.

The eligible people who can borrow are people who own small-medium businesses. The government is giving priority to these businesses that can’t afford bank loans. Businesses such as:

- Market vendors

- Agri-businessmen

-Cooperative members and associations and;

- Co-operators

How much would be the loanable amount and interest?

One good thing about this lending program is that collateral is not required. The minimum loanable amount is Php5, 000.00 and the maximum amount is Php300, 000.00. For the interest, it shall be 2.17% monthly; a big difference compared to the 20% interest rate of 5-6 lending businesses.

“Fund delivery to micro-enterprises shall be carried out in either by wholesale lending to non-bank financial institutions like MFI-INGOs and cooperatives which shall on-lend the fund to beneficiaries or by direct lending by SB Corp,” Lopez said. So in short, among the government’s priorities are entrepreneurs who don’t have easy access to credit.

Which places or provinces would get the most out of this lending program?

1. Lanao del Sur (ARMM region)
2. Sulu (ARMM region)
3. Sarangani (Region 12)
4. Northern Samar (Region 8)
5. Maguindanao (ARMM region)
6. Bukidnon (Region 10)
7. Sultan Kudarat (Region 12)
8. Zamboanga del Norte (Region 9)
9. Siquijor (Region 7)
10. Agusan del Sur (Caraga)
11. Eastern Samar (Region 8)
12. Lanao del Norte (Region 10)
13. Mountain Province (CAR region)
14. Western Samar (Region 8)
15. North Cotabato (Region 12)
16. Catanduanes (Region 5)
17. Leyte (Region 8)
18. Negros Oriental (Region 7)
19. Zamboanga Sibugay (Region 9)
20. Sorsogon (Region 5)

What are the requirements and procedure in availing this program?

- 2 Government-issued IDs (Original and photocopy)

- Business Name Registration

- Mayor's Permit

- Market Clearance

After completing the above, you would have to be aware of the procedure.

Step 1: Visit the nearest Negosyo Center in your area. Inquire about the P3 Program.

Step 2: Duly accomplish the application form that will be given to you then and there.

Step 3: The Small Business Corp., as an attached body of the Department of Trade and Industry (DTI), may conduct customer intelligence (CI) or background investigation on your application to determine your capacity for the loan you are wanting to accomplish.

Step 4: Fully be attentive with what the organizations will require of you for your documents. The ones listed above are just the basic documents.

Step 5: Your loan will be released upon the completion of the background investigations and your documents.

Take note that the application for the P3 program is free. Furthermore, they DO NOT entertain individuals or groups who are recruiting and asking for accreditation fees, placement fees, etc. in exchange for the arrangement of immediate release of loans.

This is to know if you are transacting with accredited institutions contact SB Corporation in your area or the nearest Negosyo Center.

**NOTE: These agencies may require you to submit more than what is listed above. Prepare for it and prepare all other documents that you think will be needed for the application.

Wow! For starters, the government is now avoiding burden for Filipinos. With this Pondo sa pagbabago at pag-asenso, small businesses can now be improved. Furthermore, the interest rates is not at all heavy. If you have a small business and are looking to improve it, what are you waiting for?

Business Lending Conditions

Competition among lenders appears especially acute in the commercial property loan market. Financiers are becoming more and more selective in choosing who they deal with, and within what markets they are prepared to lend.
Business lending conditions continue to create challenges along with demand for credit.
It is extremely important to understand which financiers are prepared to lend in your chosen market, and under what terms and conditions.
Recent changes to financier appetite is a direct response to perceived risks associated to individual market segments. Despite the recent targeted adjustments, banks remain vigilant in ensuring that their risk appetite and lending practices are appropriate: risks in residential property development and other commercial property markets continue to build.
Now is the time to review your banking relationship and ensure your financier is keen to support your business in the short, medium and long term.

Business Lending And Lenders Explained

What Does "Lending" Mean?
Lending (also known as "financing") in its most general sense is the temporary giving of money or property to another person with the expectation that it will be repaid. In a business and financial context, lending includes many different types of commercial loans.

Lending and borrowing are the same transaction from the two viewpoints.

What is a Lender?
Lenders are businesses or financial institutions that lend money, with the expectation that it will be paid back.


The lender is paid interest on the loan as a cost of the loan. The higher the risk of not being paid back, the higher the interest rate.

Lending to a business (particularly to a new startup business) is risky, which is why lenders charge higher interest rates and often they don't give small business loans.

Lenders do not participate in your business in the same way as shareholders in a corporation or owners/partners in other business forms. In other words, a lender has no ownership in your business.

Lenders have a different kind of risk from business owners/shareholders. Lenders come before owners in terms of payments if the business can't pay its bills or goes bankrupt. That means that you must pay lenders back before you and other owners receive any money in a bankruptcy.

What are the Types of Commercial Loans?
Bank financing for small business start-up and working capital
Asset financing for equipment and machinery or business vehicles.
Mortgages
Credit card financing
Vendor financing (through trade credit)
Personal (unsecured) loans
The type of lender you will need for a business loan depends on several factors:

Amount of loan. The amount of money you want to borrow influences the type of lender. For larger loans, you may need a combination of types of commercial loans.

Assets pledged. If you have business assets you can pledge as collateral for the loan, you can get better terms than if your loan is unsecured.
Type of assets. A mortgage is typically for land and building, while an equipment loan is for financing capital expenditures like equipment.
Startup or expansion. A startup loan is typically much more difficult to get than a loan for expansion of an existing business. For a startup, you may have to look at some of the more untraditional types of lenders described below.
Term of the loan. How long do you need the money? If you need a short-term loan for business startup, you will be looking for a different lender than for a long-term loan for land and building.
What are Different Types of Lenders?
The most common lenders are banks, credit unions, and other financial institutions.

More recently, the term lenders has been expended to refer to less traditional sources of funds for small business loans, including:

Peer-to-peer lenders - borrowing from individuals, through online organizations like Lenders Club.

Crowdfunding, through organizations like Kickstarter, and others. The good thing about these lenders is that they don't require interest payments!

Borrowing from family and friends. There are organizations that help sort out the tricky financial and personal issues involved with these transactions. If you are considering a loan from someone you know, be sure to create a loan agreement. These agreements are sometimes called private party loans.

Borrowing from yourself. You can also loan money to your business as an alternative to investing in it, but make sure you have a written contract that specifically spells out your role as a lender, with regular payments and consequences if the business defaults.

Looking for a Lender?
As you look for a lender, consider the type of loan you need, whether you have any assets to pledge against the loan, and the other factors that will determine your ability to get a business loan and the terms of that loan.