20 financial terms everyone should know

Finances can be hard, and that’s before you even consider the jargon. This guide to 20 common financial terms might help. 

What you’ll learn:

• The definitions of some of the most head-scratching financial terms, including the following examples.

• Amortization is the process of paying off a loan by making regular payments over time.

• A lien is a legal claim against personal property by a lender to satisfy a debt.

• A mutual fund is an investment portfolio consisting of stocks, bonds and other securities.

Anyone can benefit from a strong foundation in financial terminology. This alphabetical list can serve as the starting point for your journey to financial literacy:

For individual income tax purposes, AGI refers to an individual’s total gross income after qualifying deductions are subtracted. These deductions can include expenses like health savings accounts (HSAs), student loan interest, contributions to 401(k) plans and traditional IRAs, and more.

Amortization is a process of paying off a loan over time that balances payment of both the principal and interest. Your monthly payment often stays consistent over the life of the loan, but the percentage of the payment going to the principal should increase over time. Earlier in the loan term, more of the payment typically goes to interest. Mortgages and auto loans are common examples of amortized loans.

APR is the total cost of a loan. It often includes the interest rate and any lender fees. All credit types have APRs, whether it’s revolving credit, like a credit card, or an installment loan, like a mortgage. For most credit cards, the APR is the same as the interest rate. Credit card APRs may vary based on the type of transaction and how the card is used.

An asset is anything you own that has monetary value. It can be tangible, like a house or a vehicle. Or it can be intangible, like a retirement account or stocks. You’ll often hear assets mentioned alongside liabilities. These are things that are owed, like debts.

If you sell an asset you own for more than the purchase price, those profits are called capital gains. These gains can be subject to a capital gains tax, which is a tax levied when an individual makes money selling an asset. The tax rate depends on how long you owned the asset before selling it.

When it comes to saving, the Consumer Financial Protection Bureau (CFPB) says, “Compound interest is when you earn interest on the money you’ve saved and on the interest you earn.” Compound interest can increase your return on investment at a more accelerated rate than achieved with simple interest.

A credit limit is the maximum amount you can charge on a revolving credit account, such as a credit card. Lenders set limits based on credit scores, credit history, income and more. Some credit card issuers charge a fee if you exceed your credit limit. Capital One doesn’t. View important rates and disclosures.

A credit score is a reflection of a person’s creditworthiness and how likely they are to pay back their debts on time. Credit scores are used in lending decisions and can affect other things too—like rental applications and insurance premiums. FICO® and VantageScore® are the two credit-scoring companies that provide some of the most commonly used scores. The higher the credit score, the better.

Financial equity is the value of an ownership stake in an asset with any outstanding debts subtracted. For homes, equity equals the property’s value minus the outstanding mortgage balance. Equity can apply to many types of assets, including stocks, securities and ownership stakes in companies. It’s also possible for equity to be split among multiple parties.

Federal income tax is a tax levied by the federal government on the income of individuals and businesses. Federal income tax collects revenue for national programs like defense, law enforcement and interest on the national debt.

Financial statements document how a company has spent and made money. There are different types, but together, they give a holistic overview of a company’s financial health.

• Balance sheets: Balance sheets give detailed information about a company’s current assets and liabilities.

• Income statements: Income statements give information about how much revenue a company has taken over a specified period of time. Income statements are sometimes called profit and loss statements.

• Cash flow statements: Cash flow statements report on the inflow and outflow of cash from a company.

• Statements of shareholders’ equity: Shareholder equity is what money would be left over after all assets had been sold off and debts had been paid. Companies may retain shareholder equity or pay it out in the form of dividends throughout the year. The statement of shareholders’ equity gives an idea of the changes in shareholders’ interests over a given period of time.

The interest rate is a percentage paid (or earned) when money is borrowed (or lent). Interest earned is like bonus money the bank pays for keeping money in an account, such as savings. Interest owed is the cost of borrowing money. Paying your balance in full by the due date each billing cycle can help you pay less in interest than carrying your balance month after month. If you can’t pay your balance in full, the CFPB recommends paying as much as possible and at least the minimum credit card payment.

Liability is a person or organization’s financial, personal or legal responsibility for things like debts, promises to provide goods or services, and actions. You’ll often hear liabilities mentioned alongside assets. These are things you own that have monetary value.

A lien is the legal right to an asset in the settlement of a debt. For instance, a mortgage involves a lien because the house serves as collateral for the loan. If the homeowner fails to pay their debt, the house could be seized. Similarly, if a homeowner doesn’t pay their taxes, the IRS could place a tax lien on the property.

Liquidity refers to how easy it is to turn an asset into cash without losing a lot of value. Different assets have different levels of liquidity based on the time and effort to convert to cash. Cash as well as assets that can quickly be converted to cash are generally considered the most liquid.

A minimum payment is the least amount a borrower can pay on their credit card balance to keep their account in good standing. Consistently making only the minimum payment can help you avoid fees and penalties, but issuers may still charge interest, which can build over time.

When you take out a loan to purchase a home, the mortgage is the legal agreement that gives the lender the right to assume ownership of the property if you don’t pay back the loan. The property acts as collateral for the loan.

A mutual fund is a professionally managed investment portfolio. It collects money from several investors that’s used to buy a diversified mix of stocks, bonds or other assets. Each investor owns proportional shares of the fund. By investing together, they can spread out risk and access a broader range of investments.

Net worth is the difference between the combined monetary value of a person or company’s assets and their total financial liabilities. Net worth is determined by subtracting your liabilities from your assets. Positive net worth might be a sign of good financial health. And negative net worth might be a sign of poor financial health.

The principal is the amount you borrow when you take out a loan. When repaying installment loans, principal and interest may be amortized as part of monthly payments.

The financial world can get complicated. But when you learn the basics, you can develop a solid foundation for setting and achieving your financial goals.