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Personal Finance

Financial Literacy 101: Understanding Your Bank

 What you will learn:

  • 19 Banking terms
  • Banking terms to help you understand your interest rates

Like any subject you want to master, you need to first learn what the terminology means. That's exactly why you need to get yourself well-versed with the terminology related with your finances if you want to create and build wealth. This is the first step towards good financial literacy.

Here's an index of some key bank terms that everyone has come across, but might not understand what they mean. Theses aren't all the terms that exist, but they are the most common ones that appear in almost all banks around the world, and of which most people don't fully understand.

Automatic bill payment - This is an automated transfer of money from your bank account to another. The transfer happens on a cyclical basis, which you can control to meet your needs. A common way of using this banking feature is to automate the payment of credit card bills to avoid late charges or interest fees.

APR - Annual Percentage Rate is the amount of interest it costs you to have credit on an annual basis. The APR is always shown as a percentage. The most common place to see APR is in the terms and conditions of you credit card. For example if your credit card has an APR 25% than that means any outstanding balances on your credit card will be subjected to a 25% interest rate on an annual basis.

APY - Annual Percentage Yield is similar to APR, but instead of calculating cost of maintaining credit it calculates the return on investments. The APY shows you how much you can expect to get in return of your investment after all fees and also takes into effect of compounding interest. This means if you ever want to know which is a better investment among options that include different investment products, then APY is the easiest way to find out.

Billing date - Is the date a financial charge is calculated on. The billing date happens periodically to show you your current financial status with that particular financial institution, such as due date, outstanding balance and minimum repayment amount.

Billing cycle - Is the period of time your statements are calculated in. A billing cycle is important to keep your finances in order if you don't have much financial leeway to give. Knowing when the first date and the last date of a billing cycle can help you avoid extra charges and fees.

Certificate of deposit - Is a savings instrument where a bank can issue a certificate with a fixed term of maturity for a set amount of interest. It's a low risk investment tool that can help you beat inflation and maintain the value of your cash. Most commonly found in North America, but can also be found in most other countries under different names.

Compound interest - Is the interest accumulated over a period of time on top of the original principle and periodic interest received. For example if you invest an initial amount of $1000 and predict to receive a 5% annual interest on it for the next 20 years, then your compound interest will result in $2,653.3

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Check-cashing fee - The amount it costs you to cash a check at a financial institution. This is mostly a fixed amount, but some may use a percentage of your total check amount instead. It's important to check this fee before signing up with a bank if you plan to cash checks often. The amount spent or saved can be staggering.

Draft - Works similarly to a check, but is mostly used to pay a third party that is unwilling or unable to accept a normal check. A common situation is transferring a large amount of money from one bank to another when you want a certain time delay involved.

EFT - Electronic Funds Transfer is exactly what it sounds like. It's an electronic method of transferring funds from one place to another. EFT most commonly comes at a cost if you are transferring funds from different banking institutions. It's important to know this because there is always more way to transfer funds and they all have different fees.

LTV - Loan to Value Ratio is the ratio between the amount borrowed and the total amount valued. LTV is most commonly used by banks for the calculation of mortgages or other large sized borrowing of funds. A low LTV increases your chances of approval and bank are also more likely to offer you better terms and conditions.

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Overdraft - Is the amount you have withdrawn out of your bank account that is more than the amount available in your bank account. This is important to know, because overdrafts come with conditions from banks, that are commonly fees and interests. Some bank will also provide a set amount of overdraft available to you periodically, which is basically a recurring line of credit.

Outstanding balance - Is the balance that is unpaid. It includes all fees into it's calculations. This is the amount of money you owe a financial institution.

Over-draft fee - The amount the bank charges you for having an over-draft. In plain English, it's the amount the bank charges you for not having money in your bank account as well as needing to give you money to meet your immediate needs.

Refinancing - One of the most important terms you need to learn. Refinancing means to improve the terms and conditions of existing loan agreements. This is could mean lower interest rates, lower monthly payments or even a second loan based on the existing one.

Residual interest - Is the amount of interest that occurs after your statement balance until the full principle is made. For example if you still have an outstanding balance on a credit card statement than residual interest will start calculating by the day until you pay the outstanding balance off.

Revolving credit - Is a type of credit that allows the borrower a set amount of pre-approved credit that resets at the beginning of a set credit cycle. The borrower is billed only on the amount actually borrowed and the interest occurred from it, if any.

Time deposit - An amount of funds you deposit with the bank, which cannot be withdrawn until a later date to gain an interest from your deposit. The amount of time the funds is locked into the bank is called the "term". The longer the term the higher the amount of interest that can be gained.

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