What is the Finance Charge on a Loan?
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You may see a finance charge on your loan agreement when you take out a loan. But what is it? A finance charge is the cost of borrowing money.
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What is the finance charge on a loan?
The finance charge is the total amount of interest and fees you pay on a loan, and it’s expressed as a percentage of the loan’s total balance. The size of your finance charge depends on the interest rate, the length of your loan, and the amount you borrow.
For example, let’s say you take out a $1,000 loan with a 10% annual interest rate and a two-year repayment period. Your finance charge would be $200, or 20% of the loan’s original balance.
You can calculate your own finance charges using an online calculator or by using the following formula:
Finance Charge = Loan Amount x Interest Rate x Loan Length in Days / 365
How is the finance charge calculated?
The finance charge on a loan is the total cost of borrowing, including interest, fees, and other charges. It can be expressed as a dollar amount or as a percentage of the loan amount.
To calculate the finance charge on a loan, you’ll need to know the interest rate, loan amount, and term (length) of the loan. You can then use one of these formulas:
For a simple interest loan: Finance charge = Interest rate x Loan amount x Term
For a precomputed interest loan: Finance charge = (Interest rate/100) x Precomputed finance charge
For an adjustable-rate mortgage: Finance charge = monthly payments (principal + interest) x number of months
You can also use an online calculator or spreadsheet to calculate the finance charge on a loan. Just enter the required information into the calculator or spreadsheet, and it will do the math for you.
What fees are included in the finance charge?
The finance charge on a loan is the cost of borrowing money, which includes fees charged by the lender as well as interest accruing on the loan. The finance charge is typically disclosed as an annual percentage rate (APR), which allows borrowers to compare the cost of different loans.
Some fees that may be included in the finance charge are origination fees, application fees, points (a type of prepaid interest), and late payment fees. Not all of these fees may be included in the APR, so it’s important to ask about all fees that will apply to your loan before agreeing to borrow.
How can I avoid paying a finance charge?
You may be able to avoid paying a finance charge by paying your entire balance before the billing due date. This is called “paying in full.” If you don’t think you will be able to pay in full, you can still avoid finance charges by making a partial payment that is at least equal to the “minimum payment due.” The minimum payment due is usually your finance charge plus 1% of your balance, plus any past due amounts.
