A discounted loan is a type of loan where the lender deducts interest charges and fees from the total loan amount before disbursing the funds to the borrower. Essentially, you receive less cash than the loan’s face value but are required to repay the full principal amount. This upfront deduction results in a higher effective interest cost than the stated rate on the loan agreement.
For example, if you take out a $10,000 discounted loan with a 10% interest rate for one year, the lender deducts $1,000 interest upfront, and you receive only $9,000. However, you must repay the full $10,000 at the end of the term. Calculating the effective interest rate (APR) means dividing the interest cost by the actual amount received: $1,000 ÷ $9,000 = 11.11%. So, the APR is higher than the quoted 10% rate.
This difference underscores why the APR is a required disclosure under the Truth in Lending Act (TILA). The APR provides a more accurate measure for comparing the total cost of different loan offers, including those with origination fees or other upfront charges.
Today, the concept of discounted loans often appears in loans with origination fees — fees deducted from the loan amount before you receive it. For example, a personal loan with a 5% origination fee on $20,000 means you get $19,000 but still repay $20,000 plus interest. You can learn more about loan origination fees on FinHelp’s Mortgage Origination Fee page.
When considering discounted loans or loans with origination fees, keep these points in mind:
- Focus on the APR, not just the stated interest rate, to understand the true borrowing cost.
- Account for the actual cash received when budgeting for your needs.
- Compare offers considering all fees and APRs to find the best overall deal.
For detailed explanations of how APR works in lending and why it matters, visit FinHelp’s APR (Annual Percentage Rate) glossary entry.
By understanding discounted loans, you can avoid surprises and make informed decisions when borrowing money.
References:
- Investopedia: Discount Loan Definition
- NerdWallet: What Is a Personal Loan Origination Fee?
- Truth in Lending Act Summary, Consumer Financial Protection Bureau: CFPB on TILA
(For more about loan origination fees, see FinHelp’s Mortgage Origination Fee)
(For more about APR, see FinHelp’s APR (Annual Percentage Rate))
