When you borrow money, you owe money and acquire debt. You have made a promise to pay back the principal (the amount you borrowed) with interest. Whoever loaned you the cash earns something while they do not have use of their money.

What is interest on a loan? How Does Interest Work?

Interest effects the overall price you pay after your loan is completely paid off. For example, if you borrow $100 with a 10% interest rate, you will pay $110 dollars back to the lender you borrowed from. The lender will make $10 in profit.

There are several types of interest you may encounter.  Every loan has its own interest rate that will determine the true amount you owe. Most interest rates are determined by your credit score (add a link).  Before you borrow, make sure you understand exactly how the interest rate will affect how much you owe at the end of the day.

Your First Loan

Your first experience with a loan will most likely be through a credit card. Credit is borrowing. Using a credit card is taking out a loan. Credit-card companies and banks that issue credit cards are letting you borrow their money when you use their cards. It takes discipline when using your credit card, or you will find yourself under a mountain of debt.

Never borrow money from a payday loan service.  You will most likely end up paying three, four or even 10 times the amount you originally borrowed. The debt created by payday loans will often quadruple in just one year.

Now is the time to learn about credit before you start using it. But remember, the credit does come at a price! We’ll teach you all about credit and how to build it in our credit section here.