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Glossary of Credit Terms

2-percent rule

A rule of thumb to see if refinancing a mortgage loan is a good financial decision. The rule says you should refinance if you can lower the interest rate on the loan by at least 2 percentage points (for example, to 7% percent from 9%). However, factors such as how long you continue to live in your home after refinancing, or whether you invest your savings, make this a rule of thumb with many exceptions.

401(k) plan

An employer-sponsored retirement plan that lets you make tax-deferred contributions. For 2018, you can contribute $18,500 ($24,500 if age 50 or older) to a 401(k) plan.


Adjustable-rate mortgage (ARM)

A type of mortgage loan in which the interest rate paid on the outstanding balance varies according to a specific benchmark.


Gradual reduction of loan principal that occurs as you make periodic loan payments.

Annual exclusion

Another name for the gift-tax exemption, which is the amount that is exempt from gift taxes. The annual exclusion for 2018 is $15,000.

Annual percentage rate (APR)

The real cost that you pay to borrow, stated as a yearly percentage of the loan amount. This is sometimes called your effective borrowing cost. For auto and mortgage loans, closing costs and discount points are added to calculate APR. For example, if you pay $500 in closing costs to obtain a $10,000 loan, the APR will be higher than the interest rate since you are effectively borrowing $9,500 but will owe $10,000. The Truth-in-Lending Act requires the lender to disclose the APR to you. For credit cards, the annual fee is often not included in the APR calculation. As a result, an APR of a credit card is often its simple interest rate.


Insurance policy or an investment that pays out a fixed amount of money each year.

Applicable exclusion limit

The dollar value of your estate that is exempt from estate taxes. For 2018, the amount is $11,200,000.

Application scoring

Use of a statistical model to objectively evaluate and score credit applications and credit bureau data in order to assess likely future performance. Scores help businesses make decisions such as whether to accept or decline the application.


The process of estimating fair market value of an asset. Appraisals are routinely required for real estate transactions. An appraiser should be a certified professional. He or she should be an independent party to the transaction in order to avoid potential conflict of interest. Real estate appraisers use methods that are common in local practice. Comparable-sales method is widely used to appraise real estate.

Appraisal value

Market value of an asset that is derived from the appraisal process. Depending on the asset, the method used to appraise the asset will differ. For homes, appraisers often use a method that includes recent sales data of comparable homes. They may also use the replacement method, which is the cost to replace the home at today’s prices.


The increase in the value of an asset, measured in dollars or as a percentage. For example, an investment that rises in price to $25 from $20 has appreciated 25 percent.

Auto lease purchase option

Right to buy leased equipment at the end of the lease term.



A proceeding in U.S. Bankruptcy Court that may legally release a person from repaying debts owed. Credit reports normally include bankruptcies for up to 10 years.

Basis point

A basis point is 1/100 of a percentage point. Interest rates and bond yields are often stated in basis points. For example, if you hear that commercial banks raised their prime rate on loans by 25 basis points, it would mean they raised their prime lending rate by one-quarter of a percentage point.


Person or entity that is named as the legal recipient of the proceeds from a retirement account, insurance policy, trust, will, or other fiduciary arrangement.

Biweekly mortgage

A mortgage loan that requires a payment every two weeks instead of 12 monthly payments. The loan is amortized faster using a bi-weekly mortgage and you pay less interest.

Blind trust

A trust agreement that does not specify to either the grantor or beneficiary how the trust assets are being managed. Blind trusts are set up to avoid potential conflicts of interest.

Blue-book value

A phrase that gets its name from Kelley Blue Book, an authoritative source of used car values. Kelley Blue Book determines the blue-book value of an auto by considering its make, model, year, and condition.

Break-even point

At the break-even point, the savings you receive from refinancing equal the costs.

Budget variances

Difference in actual and budgeted income and expenses. If your budgeted expenses exceed your actual expenses, you have a positive variance. If your actual expenses exceed your budgeted expenses, you have a negative variance. As long as you rack up positive variances, you are able to set aside an amount to save. This savings amount should be about equal to the amount of the variance. Identifying budget variances is an important step in effective personal budgeting.


A process that starts with creating a plan to record all cash inflows and outflows. The process continues by adhering to a budget. Adherence requires discipline to make sure your budgeted cash outflows equal your budgeted inflows. A final step of the budgeting process is review of recent performance. Personal budgeting is a similar process that you put in place to manage your personal finances.


Capital gain

An increase in the value of a capital asset that you own. The IRS defines a capital asset as almost everything you use for personal purposes or investment, including stocks and bonds, your home, personal property, and collectibles.

Capitalized cost reduction

Auto leasing term that is synonymous with the down payment you make on a new auto loan, or the trade-in value that you receive.

Cash inflows

Dollars (or relevant currency) that you receive on an investment. Cash inflows are a payback, or source of cash, on an investment. Cash outflows, on the other hand, are dollars (or relevant currency) that you spend or invest to earn a rate of return. Cash outflows are uses of cash. The interest rate that equates the cash inflows and outflows for a project, even one extending many years, is called the internal rate of return.

Cash outflows

Dollars (or relevant currency) that you spend or invest in order to earn a rate of return. Cash outflows are uses of cash. Cash inflows, on the other hand, are dollars (or relevant currency) that you receive on an investment. Cash inflows are a payback, or source of cash, on an investment. The interest rate that equates the cash outflows and inflows for a project, even one extending many years, is called the internal rate of return.

Cash value

Dollar value that is returned to an insurance policyholder if the policy is canceled.

Certificate of deposit (CD)

A time deposit that you make at a bank generally ranging in amount from $500 to $250,000. The FDIC insures CDs for up to $250,000 per institution per depositor.


Balance on a credit obligation that a lender no longer expects to be repaid and writes off as a bad debt.

Charitable organization (or charity)

A non-profit organization that is usually qualified under section 501(c)(3) of the federal tax code order to receive tax-exempt status. Charitable organizations such as churches do not have to register as 501(c)(3) corporations. Many charitable organizations focus on providing social services that are often inadequately funded by government social-service programs. Contributions that you make to a charitable organization are tax-deductible. Generally, you cannot deduct an amount greater than 30% or 50% of your adjusted gross income, depending on the type of contribution.


The final stage of the loan process. It requires payment of any funds that are due to the other party and the signing of documents needed to record the transaction.

Closing costs

Total expenses that the buyer pays at the time a real estate transaction is completed, e.g. application fees, underwriting and loan-origination fees, etc.


An asset that is used to secure the repayment of a loan. Also called security. For example, if a borrower defaults on an auto loan, the lender has the right to sell the collateral in order to collect on the loan. The same principle works on most mortgage loans, which are collateralized by the homes that the loans are used to buy.


Attempted recovery of a past-due credit obligation by a collection department or agency.

Comparable-sales method

Method of using recent sale prices of similar assets to help calculate an appraisal value of an asset. This method is frequently used to appraise residential and commercial real estate. For example, if three homes with similar features in your neighborhood were recently sold, their sale prices would be a fairly reliable indicator of how much your home could sell for today. The timeliness of sales data is also important. For example, in this case, if the sales occurred a year ago, these data may not be reliable indicators of the value of your home today.


Adds the interest you earn on an investment and invests it, plus the original investment, for another period. The result is that you earn more interest and a higher rate of return.

Compounding frequency

Frequency that a bank compounds interest on your deposit (e.g. daily, monthly, quarterly). The higher the frequency, the higher the interest rate.

Conforming mortgage loan

A mortgage loan whose amount allows Freddie Mac and Fannie Mae, two government-sponsored enterprises, to buy the loan, repackage it as a security, and sell it to investors. A non-conforming loan is one for a larger amount and is often called a jumbo loan. For 2018, the conforming loan limit for single-family homes is $453,100. For high-cost areas including Alaska and Hawaii, the conforming loan limit may be up to $679,650.


Loan consolidation combines multiple loans into a single loan to reduce payments, pay off debt quicker, and/or switch from a fixed-rate to variable-rate loan or vice versa.

Consumer credit file

A credit bureau record on a given individual. It may include: consumer name, address, Social Security number, credit history, inquiries, collection records, and public records such as bankruptcy filings and tax liens.

Cost-benefit analysis

An analysis of the cost effectiveness of different alternatives in order to see whether the benefits outweigh the costs.


(Real estate) An offer from the seller that follows a buyer’s initial offer. If the seller makes a counter-offer, it is to lower the price to meet the buyer’s initial offer. For example, if a buyer offers $100,000 for a home that is listed at $110,000, the seller may counter-offer at $105,000. Once a counter-offer is made, successive offers from either side are considered counter-offers. After a series of counter-offers, a mutually acceptable sale price is usually reached.

Credit bureau

A credit reporting agency that is a clearinghouse for information on the credit rating of individuals or firms. Is often called a ?credit repository? or a ?consumer reporting agency?. The three largest credit bureaus in the U.S. are Equifax, Experian and TransUnion.

Credit bureau risk score

A type of credit score based solely on data stored at the major credit bureaus. It offers a snapshot of a consumer’s credit risk at a particular point in time, and rates the likelihood that the consumer will repay debts as agreed.

Credit history

A record of how a consumer has repaid credit obligations in the past; A summary of an individual’s credit history. It shows loan payment history, late payments, existence of liens or other encumbrances, debt forgiveness, bankruptcy filings, and number of inquiries by prospective lenders.

Credit obligation

An agreement by which a person is legally bound to pay back borrowed money or used credit.

Credit report

Information communicated by a credit reporting agency that bears on a consumer’s credit standing. Most credit reports include: consumer name, address, credit history, inquiries, collection records, and any public records such as bankruptcy filings and tax liens.

Credit risk

Likelihood that an individual will pay his or her credit obligations as agreed. Borrowers who are more likely to pay as agreed pose less risk to creditors and lenders.

Credit score

This term is often used to refer to credit bureau risk scores. It broadly refers to a number generated by a statistical model which is used to objectively evaluate information that pertains to making a credit decision.


Lender, or someone to which you are financially indebted. It can be either an institution or individual. Institutional creditors include banks, credit card companies, and bond investors.


Debt ratio

Used by lenders to approve loan applicants. Debt ratio equals combined monthly debt payments divided by gross monthly income.


Amount that you subtract from your taxable income. As a result, a deduction lowers your taxable income, which, in turn, lowers your tax liability.


Failure to make a loan or debt payment when due. Usually an account is considered to be ?in default? after being delinquent for several consecutive 30-day billing cycles.


Failure to deliver even the minimum payment on a loan or debt payment on or before the time agreed. Accounts are often referred to as 30, 60, 90 or 120 days delinquent because most lenders have monthly payment cycles.

Dollar-cost averaging

Investing technique that requires you to set aside a fixed amount at regular intervals to buy shares of an investment. It does not matter what the current price is. Since share prices normally rise and fall, your cost to acquire the investment over time is, on average, cheaper than attempting to time your purchases. Market and investment experts recommend the use of dollar-cost averaging.

Down payment

Cash you deposit towards the purchase of home, car, etc. The larger the down payment, the less you are required to borrow.

Dying intestate

Dying without leaving a will or trust to specify transfer of title of your assets to your beneficiaries after you die. As a result, the court appointed by the state of your residence will determine how your assets are distributed.


Economic cycle

Economies tend to perform in cycles. Rising output and employment characterize the growth phase of the cycle. Interest rates tend to creep up, reflecting strong demand for credit. Eventually, a bottleneck in production, a fall in demand, or other factors result in a slowdown. Declining output and higher unemployment characterize the slowdown phase of the cycle. Interest rates begin to fall, aiming to stimulate demand for credit. In time, the economy passes through one cycle. Economic cycles tend to overlap, but not exactly. This allows investors to benefit from diversification that comes with buying the stocks and bonds of companies that operate in these different economies.

Emergency fund

Also called a rainy-day fund. It is your pool of savings that is parked in a safe and liquid savings instrument (perhaps even under the mattress) so that you can access the funds in an emergency. Financial planners recommend that you have an emergency fund that is equal to between three and six months of your salary. Major reasons for tapping your emergency fund include losing a job or incurring large and unexpected medical expenses.

Equal Credit Opportunity Act (ECOA)

Federal legislation that prohibits discrimination in credit. The ECOA originally was enacted in 1974 as Title VII of the Consumer Credit Protection Act.


Value of ownership built up in a home that represents the current market value of the house less any remaining mortgage debt.

Escrow account

A reserve account controlled by a fiduciary agent that is used to make regular homeowner’s insurance and real estate tax payments. The borrower funds the account periodically.


The value of your assets minus allowable deductions at your death. Good estate planning ensures that the proceeds of your estate are distributed to your desired beneficiaries. This requires that you draft a will or trust and update it periodically. Poor estate planning leads to probate, a lengthier and more expensive process of determining the distribution of your estate.

Estate taxes

Taxes levied on the assets of an estate. For 2018, the maximum amount of income that is excluded from estate taxes is $11.20 million. The maximum estate and gift tax rate in 2018 is 40%.


FICO® Scores

Credit bureau risk scores produced from models developed by Fair Isaac Corporation are commonly known as FICO Scores. FICO Scores are used by lenders and others to assess the credit risk of prospective borrowers or existing customers, in order to help make credit and marketing decisions. These scores are derived solely from the information available on credit bureau reports.


Pronounced “fis-bo,” FSBO stands for “for sale by owner.” FSBO describes a homeowner that sells a home without the assistance of a real estate broker, agent or other intermediary. The owner hopes to lure potential homebuyers by selling the home at a lower cost since they can avoid a sales commission.

Fair Credit Reporting Act (FCRA)

Federal legislation that promotes the accuracy, confidentiality and proper use of information in the files of every ?consumer reporting agency?. The FCRA was enacted in 1970.

Financial goal

A goal that involves saving and investing to reach a specific amount by a specific date. For example, a financial goal may be to save $25,000 for a college education fund for a child in 15 years, or it may be to save $500,000 for a retirement fund in 25 years. You can achieve your financial goals through a combination of saving more, saving longer or earning a higher rate of return.

Future value

Amount to which your investment grows in the future. For example, the future value of $100 invested monthly at 8% is $1,245 after 12 months.


Gift taxes

Paid by the benefactor (also called the donor). A gift tax is levied on amounts that exceed a yearly per-person exclusion of $15,000. The maximum gift tax rate is 40% in 2018.


The process of allocating a gift between spouses to take advantage of the annual gift-tax exclusion. If you split a gift, the IRS requires each spouse to complete IRS Form 709 for the tax year in which you made the gift.

Gift-tax exclusion limit

Amount that is exempt from gift taxes. For 2018, the limit is $15,000.


Process of distributing your wealth to designated beneficiaries. Gifting is essentially giving except that the process has a legal connotation since it ultimately affects the value of your estate. Gifting involves a benefactor (also called the donor) transferring, or gifting, cash or other property to a beneficiary (also called the donee).


Person who sets up a trust for the distribution of his or her assets. Also known as a settlor.

Gross income

The IRS defines gross income as all income that is not exempt from tax. Gross income may be received as money, goods, property, or services.



the beneficiary of an estate.

Home equity

The current value of your home minus the total amount of mortgage debt on the home. This amount represents the share of your home that you own outright. If you owe no mortgage debt, the value of your home is your equity. Home equity is often used as a source of borrowing for homeowners. Home equity is not a static amount. It increases as you pay down your mortgage and as your home value rises. It decreases if you borrow against your home or as the value declines. For example, if your home is appraised at $100,000, and you have mortgage debt of $60,000, your home equity is $40,000.

Home equity loan

An amortizing mortgage loan that allows homeowners to borrow against the equity in the home for making home improvements, consolidating debt, or spending for general purposes.

Homeowner’s insurance

Protects the homeowner from weather-related damage, as well as potential liability from events that occur on the property. Normally required by lenders.

Housing ratio

Used by lenders to approve loan applicants. Housing ratio equals combined monthly mortgage payment divided by gross monthly income.


Index rate

Widely used benchmark interest rate that lenders use to set the interest rate on loans and credit cards.


A process of adjusting amounts periodically to reflect an increase in the inflation rate. The IRS frequently indexes dollar amounts for tax brackets, retirement account contributions, and tax deduction income phase out amounts. Indexing is also a process of determining loan interest rates. It involves setting an interest rate to a base rate, usually a widely quoted market rate such as the yield on U.S. Treasury bills, LIBOR, or the U.S. prime rate. Indexing allows a lender and borrower to share the risk of changes in the base rate. The base rate is reset occasionally, such as on a specific date every year or other interval. The amount added to the base rate is called the margin, or spread.

Individual retirement account (IRA)

The two main types of IRAs are regular and Roth IRAs. Regular IRAs are also called traditional IRAs because they were the first IRAs introduced back in 1981. Roth IRAs were introduced in 1998. Regular IRAs allow you to make a tax-deferred yearly contribution of $5,500 in 2018. For persons who are age 50 or older, a special catch-up provision allows you to contribute an additional $1,000, or a total of $6,500, for 2018. This account grows tax-deferred until you begin to take distributions, which you can do after you turn age 59-1/2. Roth IRAs require you to pay income taxes in the year that you make the contribution. You also can contribute $5,500 per year in 2018 ($6,500 if age 50 or older). Roth IRAs grow tax-deferred, and if you keep the account for at least five years and are at least 59-1/2, the entire account can be distributed tax- and penalty-free.

Initial offer

(Real estate) the initial price that a potential buyer offers for a home. Traders and auctioneers generally refer to a buyer’s price as a bid and seller’s price as an offer.


An item on a consumer’s credit report that shows that someone with a ?permissible purpose? (under FCRA rules) has previously requested a copy of the consumer’s report. Fair Isaac credit bureau risk scores take into account only inquiries resulting from a consumer’s application for credit.

Installment debt

Debt to be paid at regular times over a specified period. Examples of installment debt include most mortgage and auto loans.

Insurance bureau score

An insurance rating based solely on credit bureau data stored at the major credit bureaus. It offers a snapshot of an individual’s insurance risk at a particular point in time, and helps insurers evaluate new and renewal auto and homeowner insurance policies.

Interest rate

Amount charged, expressed as a percentage of principal, by a lender to a borrower for the use of money.

Interest rate lock

Also called a rate lock, an interest rate lock is a temporary guarantee that the interest rate that a lender quotes you will not change. It protects you from the chance of an increase in your borrowing interest rate. Lenders may charge you a small fee to give you an interest rate lock. Although rate locks are usually for 30 days, a lender may be willing to offer a longer period in exchange for a larger fee.


Late payment

A delinquent payment; a failure to deliver a loan or debt payment on or before the time agreed.


A contract between two parties, a lessor and lessee, whereby the lessee makes periodic payments to the lessor to rent an asset.

Lease term

The period that the lessee contracts with the lessor to make lease payments. At the end of a lease term, the lessee may have the option to renew the lease for a new term, purchase the equipment at a price called the residual value or walk away from any further obligation.


Legal claim held by a creditor against an asset to guarantee or secure repayment of the debt. Mortgage liens are regularly used in real estate lending as collateral for a loan.

Lifetime cap

The limit to how much the interest rate on an adjustable-rate loan can be increased over the term of the loan.

Line of credit

A form of revolving credit whereby the borrower can draw down only the amount needed, up to the amount of the credit limit. The borrower only pays interest on the amount drawn, or disbursed.


A favorable characteristic of a stock, bond, or other security. It represents the relative ease with which a security may be sold. The more buyers and sellers there are for a security, the greater its liquidity. Liquidity is often reflected in the spread of the price of the security: A narrow spread between bid and ask prices is a positive sign of liquidity.

Listing agreement

A contract between the home seller and real estate agent that spells out the basic terms of the listing. These include home sale price, whether the home will be listed in a multiple listing service, sales commission, and contract expiration date.

Listing price

Price that a homeowner asks for his home when selling. Listing price is usually at the high end of a price range that is negotiated lower by effective bidding from the buyer.

Living trust

Legal arrangement that allows you to transfer assets to a trust during your lifetime. A trust is a fiduciary arrangement that you establish to transfer your assets to the beneficiary of the trust. A living trust can be used to avoid probate.

Living will

A will that you execute while you are still living that specifies whether or not you want to be kept alive by artificial means.

Loan closing

The final stage of the loan process that requires an exchange of any monies due and any signatures required to record a transaction. Closing costs are paid at the closing.

Loan-to-value ratio (LTV)

LTV is a lending risk assessment ratio that lenders examine before approving a mortgage. It is calculated by dividing the mortgage loan amount by the fair market value of the home.



The fixed amount a lender adds to the base rate of an adjustable-rate mortgage to set the loan rate.

Marital deduction

The conveyance of estate from a spouse who has died (the decedent) to the surviving spouse. Federal estate tax law allows you to transfer your entire estate to the surviving spouse with no estate tax liability.

Market interest rate

Interest rate for bonds with similar risk characteristics and terms to maturity to those of the bond you are selling.

Market value

Value of an asset as of a certain date. It is the price at which the asset would change hands in a free and arms-length transaction. Market value is also called current value. For example, the market value of your retirement account today may be $100,000. This is the total market value of the stocks, bonds, cash, and mutual funds in your account. In the case of most securities, market values can be determined every day, even at a given point in time. For less-liquid assets, such as real estate or collectibles, market value may require a professional appraisal.


The federal health insurance program for persons who are eligible to receive Social Security benefits. Generally, you can apply for Medicare when you turn age 65. In some cases, you may be eligible for Medicare at a younger age. Part A of Medicare is the hospital insurance (HI) component. Your entire FICA contribution goes toward Part A. Part B of Medicare is called the medical insurance component. You purchase Medicare insurance for Part B, which covers physician and outpatient expenses.


Person whose personal net worth is $1 million or more. A billionaire is a term for a person whose personal net worth is $1 billion or more. ($1 billion is 1,000 times as much as $1 million.)

Mortgage interest tax deduction

Deduction for taxpayers who pay interest on home mortgage and home equity loan interest, allowed primarily to encourage home ownership.

Mortgage points

Also called discount points, points, loan discount points, loan origination fees, or maximum loan charges. A point is equal to 1 percent of the loan amount. For example, 1 point on a loan of $150,000 equals $1,500. Lenders consider mortgage points as interest you pay in advance. As a result, the more points you pay when you close the loan, the lower your interest rate. If you qualify, you may be able to deduct mortgage points in the year you close the loan for tax purposes. Otherwise, you will have to amortize the points paid over the term of the loan.

Multiple listing service (MLS)

A database of home listings used by a network of real estate agents or brokers. If your home is listed in an MLS, it usually means that any broker or agent subscribing to the database is allowed to show your home to a prospective buyer.


Net income

Individuals: net income is the amount of income left after all deductions and taxes. Corporations: net income is a company’s profit for a given period of time after it pays taxes and all other expenses.


Opportunity cost

Opportunity cost is the sacrifice of benefits from the next-best alternative that you face when you make a financial or economic decision. For example, say you had $1,000 to invest. You could invest it in a stock mutual fund that might return 20% or more. If you make this investment decision, you sacrifice the opportunity to earn a lower rate of return on an investment that has no risk. This might be a CD or other fixed-term deposit that had a 6% rate of return. This 6% guaranteed return would be the opportunity cost of investing in the mutual fund instead.

Origination fee

A lender may charge an origination fee that is additional to any mortgage points you pay. Origination fees are the lender’s charge for funding your mortgage with a mortgage broker. The process of funding your loan is called origination.

Ownership test

A requirement by the IRS that you must own a home for at least two years in order to exclude from taxable income the allowable amount of capital gains (up to $500,000 joint or $250.000 single) earned on the sale of your home. This two-year period must occur during the five-year period that ended on the date you sold the home.



Acronym for the principal and interest that you pay on a mortgage loan.


Acronym for loan principal, interest, property taxes and homeowner’s insurance.

Pay period frequency

Pay periods can be daily, weekly, bi-weekly (26 periods in a year), semi-monthly (twice a month), monthly, quarterly, semi-yearly (twice a year), and yearly.

Payment cap

Limit on the amount that the monthly payment can increase. A periodic cap limits the amount of the increase at each adjustment period. A lifetime cap limits the amount that the monthly payment can increase during the term of the loan. A potential peril of payment caps is negative amortization. In the case of an adjustable-rate mortgage with a payment cap, rising interest rates may cause the loan payment to be insufficient to cover even the interest portion of the scheduled payment. In this case, the unpaid interest may be added to the mortgage loan principal, if the loan agreement permits.

Periodic rate cap

The maximum amount a loan rate can change on an adjustable-rate mortgage loan on the anniversary date. ARM loan rates are often reset once a year after an initial period. A lifetime cap often exists. A lifetime cap limits the maximum loan rate that can be charged.

Personal assets

Assets that belong to you. In general, an asset is property that has value. It can be sold or used up over a period of time. The value of an asset is stated in dollars (or the appropriate currency). Personal assets include checking and savings accounts, investments, personal property, real estate, collectibles, and the value of life insurance policies. In order to place a value on personal assets, you rely on either market value or appraisal value. For assets that are liquid (i.e., there are many buyers and sellers of the asset or a close substitute), market value is a reliable indicator. For assets that are illiquid (such as a collectible), appraisal value is a more reliable indicator.

Personal balance sheet

A balance sheet showing your personal assets and personal liabilities. A personal balance sheet may be displayed using a t-account, with assets on the left and liabilities and equity on the right. Or it may be displayed in a stacked fashion, with assets on top and equity on bottom.

Personal budget

A planning tool that lays out in simple and concise terms how much you earn and spend each month. For example, you may decide to spend $1,000 and save $200 from your monthly after-tax income of $1,200. You can do a personal budget for the entire household. As part of the budgeting process, you want to save for several months of emergency, or rainy day, expenses. These are funds you can live on for three to six months in the event of an emergency. Part of setting up a personal budget is using it to compare to your actual spending. If you actually spend $1,100 a month and save only $100, you either need to discipline your spending, or adjust your budget to more realistic circumstances.

Personal cash flow

Difference in cash inflows and outflows over a period of time. Calculating your personal cash flow is an essential part of personal budgeting. Cash inflows include salary and other sources of cash-based income. Non-cash compensation is excluded, and you should deduct any contributions to a retirement account. Cash outflows include bill payments, including mortgage or rent, living expenses, utilities, and repayment of debt. Personal cash flow is usually measured over a monthly period.

Personal liabilities

Your debts and obligations. The amount of liability you owe is stated in dollars (or the appropriate currency). Personal liabilities most commonly consist of loans, including those you may have cosigned or guaranteed. (Liabilities for which you are liable in the event of default by the main borrower are called contingent liabilities.) Major categories of personal liabilities include credit card debt, installment debt, mortgage and home equity debt, and brokerage accounts where you have a margin account.

Personal net worth

Net worth; also called total equity, is equal to assets minus liabilities.


Also called discount points, mortgage points, loan discount points, loan origination fees, and maximum loan charges. A point is equal to 1 percent of the loan amount. For example, one point on a loan of $150,000 is $1,500. Lenders consider mortgage points as interest that you pay in advance. As a result, the more points you pay when you close the loan, the lower your interest rate. If you qualify, you may be able to deduct mortgage points in the year you close the loan for tax purposes. Otherwise, you will have to amortize the points paid over the term of the loan.


Group or securities or other investments. If you invest in a diversified portfolio of securities, you can generally reduce your investment risk. (Investment risk is the volatility of investment returns of the securities in your portfolio.) A diversified portfolio lets you to earn a higher rate of return for a given amount of risk or reduce your risk for a given rate of return.


There are the first two steps in applying for a mortgage loan. First, a lender or broker pre-qualifies you. Pre-qualification determines whether you have the financial resources to match the size of loan you are requesting. Information is often not verified at this step. It is a preliminary step to screen your viability as a loan applicant. Pre-approval is the next step. It requires much more detail. You will need to verify your income and down payment, for instance. A lender will determine whether you meet its underwriting guidelines. A pre-approval signifies that a lender will make you a loan for the amount for which you are pre-approved.


There are the first two steps in applying for a mortgage loan. First, a lender or broker pre-qualifies you. Pre-qualification determines whether you have the financial resources to match the size of loan you are requesting. Information is often not verified at this step. It is a preliminary step to screen your viability as a loan applicant. Pre-approval is the next step. It requires much more detail. You will need to verify your income and down payment, for instance. A lender will determine whether you meet its underwriting guidelines. A pre-approval signifies that a lender will make you a loan for the amount for which you are pre-approved.


An amount that you pay on your mortgage or other loan that constitutes an additional, unscheduled payment.

Present value

Value of a future payment, or series of payments, discounted at the appropriate interest rate to determine the value in today’s dollars.

Private mortgage insurance (PMI)

An insurance policy that protects lenders against loss if a borrower defaults. Typically required if the loan-to-value (LTV) ratio of the home exceeds 80%.


Legal procedure settled by a state court of law that identifies the heirs to your estate and determines their legally entitled share.


Legal procedure settled by a state court of law that identifies the heirs to your estate and determines their legally entitled share.

Property tax

A tax assessed on real estate by the local government, usually based on the value of the property (including the land) you own.


Rate of return

Percentage gain or loss on an investment expressed as a yearly rate.

Real Estate Settlement Procedures Act (RESPA)

Real Estate Settlement Procedures Act (RESPA) is a federal consumer-protection law. It aims to prevent abuses in the loan closing, or settlement, procedures for residential mortgage loan transactions. RESPA requires the lender to provide a series of disclosures that begins when the borrower applies for a loan. RESPA also requires the lender to notify the borrower if it transfers the loan-servicing rights to another company. It also requires the lender to send a yearly statement to the borrower that summarizes escrow deposits and payments over the past year.


A financial incentive that is offered by an auto dealer or maker to encourage vehicle sales. Rebates often run as high as $2,000 or $3,000 on the price of a new auto.


Replacing an older loan with a new loan offering better terms, e.g. a lower interest rate, fixed vs. variable rate (or vice versa), or no balloon payment.

Residual value

Residual value is the fair market value of a leased vehicle or other equipment at the end of the lease term.

Reverse mortgage

A lump sum payment or annuity that is paid from a lender or insurance company to the homeowner to supplement or provide income. The homeowner or his estate repays the mortgage obligation when he sells or vacates the home, or dies. Reverse mortgages allow seniors to borrow from the equity in their homes. Reverse mortgages are not considered taxable income, and do not affect social security or Medicare benefits. No mortgage interest tax deduction is available.

Revocable living trust

One that you can revoke or modify while you are alive. It offers more flexibility than an irrevocable trust.

Revolving debt

Debt owed on an account that the borrower can repeatedly use and pay back without having to reapply every time credit is used. Credit cards are the most common type of revolving account.


Sales contract

Legally binding document between buyer and seller of a home that should address all terms and conditions of the transaction.

Savings interest rate

Yearly interest rate you earn on your savings.

Savings plan

A systematic plan you use to save for a specific financial goal. If you have more than one financial goal, you may wish to set up a savings plan for each goal. First, review personal budget and personal cash flow to see how much you can save on a periodic basis. Next, pick a period in which you want to save the desired amount. Finally, estimate a realistic rate of return. It’s important that you save regularly and avoid paying income taxes on your earnings, if possible. One way to do this is to contribute first to tax-advantaged retirement accounts and college savings plans.


See [credit score](#credit-score).

Scoring model

A statistical formula that is used, usually with the help of computers, to estimate future performance of prospective borrowers and existing customers. A scoring model calculates scores based on data such as information on a consumer’s credit report.

Section 529 plans

A special tax-advantaged plan, operated by a state government or an educational institution, used to save for the college education of a child, grandchild, or other dependent.

Social Security

The federal retirement income security program in the U.S. If eligible, you may start receiving benefits when you reach age 62. The minimum age for receiving full benefits is gradually increasing to 67 from 65.

Social Security taxes

Paid to Old Age Survivors and Disability Insurance (OASDI) and Medicare.

Sunset provision

The Economic Growth and Tax Relief Reconciliation Act of 2001 had a “sunset” provision that called for the various portions of the law to expire in 2012. Some portions of the tax law were to expire before 2012. The 2012 Taxpayer Relief Act extended many of the provisions that were set to expire.



A t-account illustrates the composition of the balance sheet of a company or individual. A t-account shows the assets on the left side, and liabilities and net worth on the right side. Assets minus liabilities equal net worth. As a result, the total on the left side equals the total on the right side of the t-account. For example, if you have $100,000 in assets and $70,000 in liabilities, you have $30,000 in net worth. (For companies, net worth is called shareholders equity.) Each side of the t-account has $100,000.

Tax credit

A dollar-for-dollar reduction in taxes that you owe. For example, if you paid $1,000 in taxes and receive a $500 tax credit, you will be refunded $500. If you owe $1,000 and are eligible for a $500 tax credit, the amount you owe is reduced to $500.

Tax savings

Amount you may save in taxes from a tax deduction or tax credit.


Item or expense subtracted from adjusted gross income to reduce the amount of income subject to tax.

Tax-deferred investment

Investment that allows you to postpone, or defer, paying income taxes until you begin to take money out of the account. IRAs, 401(k) plans, and variable annuities are examples of tax-deferred investments. The advantage of a tax-deferred investment is that it compounds to a larger amount than if you paid taxes each year.

Title insurance

Insurance policy that the borrower buys when closing a mortgage loan to ensure that the title to the real property that secures the loan has no “surprises.” A title search should show any legal encumbrances on the parcel used as collateral. But, on occasion, an unrecorded lien might exist. This would jeopardize the lender’s collateral position. Thus, the lender requires a title insurance policy.

Title search

Review for any liens or other encumbrances that may be recorded on a parcel of real estate. A title search is a step in the process of due diligence that a lender does as part of making a mortgage loan. The lender of a first mortgage expects to have a first mortgage lien on the property to ensure he is repaid first in the event of the sale of the property or a foreclosure.


Auto or other vehicle you exchange when you buy a new one.

Trade-in value

Price you can expect to be offered for your used car if you sell it to a dealer as part of buying a new car.

Treasury bills (T-bills)

U.S. Treasury bills are short-term debt obligations of the U.S. Treasury. T-bills are usually issued to mature in three or six months. Prices for T-bills are stated as a discount to the par value. For example, a T-bill with a price of 99.65 is selling for 99.65% of its par value. T-bills are auctioned weekly and used to pay operations of the federal government. T-bills are considered to be among the safest and most liquid investments.

Trust account

A custodial account involving an administrator, or trustee, that defines how your assets are to be distributed to your beneficiaries. Trust agreements are used for inter vivos trusts, which can be either revocable or irrevocable.


Custodian of a trust account responsible for distributing the trust’s assets in accordance with the trust agreement.

Truth-in-Lending Act

A consumer protection law that requires lenders to disclose all of your loan costs, your true interest cost as an annual percentage rate, and total payments you will make over the loan term.


Unified tax credit

A tax credit reserve that you use to eliminate or reduce estate taxes. A tax credit is a dollar-for-dollar reduction in the amount of taxes you owe. For 2018, you can deduct a unified credit of $4.48 million from the amount of gift taxes that you owe. This unified credit amount corresponds to the 2018 applicable exclusion limit of $11.2 million.

Upfront costs

Also called closing costs, these are fees and any other costs that you pay at a loan closing.

Use test

A requirement by the IRS that you must have lived in a home as your main home for at least two years in order to exclude from taxable income the allowable amount ($500.0000 joint, $250,000 single) of capital gains earned on the sale of your home. This two-year period must occur during the five-year period that ended on the date you sold the home.


Vehicle options

Choices that are sold separately for an extra fee when you buy a vehicle. Options increase the vehicle sale price.



Legally enforceable statement of how you wish to distribute your wealth after your death.



The annual income provided by a fund, share or bond expressed as a percentage. Yield is normally calculated by dividing the current price of the asset by the income. For example, the yield on a bond that sells for $1,000 and has a coupon rate of 8% is 8%. If the bond price rises to $1,050, the yield falls to 7.62%. If the price drops to $950, the current yield rises to 8.42%. Redemption yield is the interest rate that you are getting if you buy a bond at the current price and hold it until redemption.

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