My goal as a financial wellness author is to teach you to make your finances a healthy and positive part of life, and that requires you to learn the language of money. This is a brief overview of some common personal finance terminology that you may see in my other blog posts or come across in other venues. Let me know in the comments if you have any questions or anything you'd like to see added. Thanks!
401(k): the most common tax-advantaged employer-sponsored defined contribution retirement account. The employer (and other parties) are responsible for oversight of the plan as a whole, but individuals (employees) own and manage their own accounts. If the employee ceases employment with the employer, they are entitled to all of their contributions, earnings, and any vested employer contributions.
403(b): the tax-advantaged employer-sponsored defined contribution retirement plan offered by governmental and nonprofit employers
Accrual:
Accrual accounting: the standard method of accounting in which revenues are recorded when earned and expenses are recorded when incurred, as opposed to recording transactions only when cash changes hands. This method is required for businesses that publish financial statements used by investors, since it provides greater visibility into future cash flows of the business, such as payments expected from customers and amounts owed to others.
General: an accumulation of transactions where cash has not yet changed hands. Example: an employee may “accrue” paid time off (PTO) as part of their employee benefits package, and thus have an “accrued PTO” balance with their employer, and at the same time the employer has an “accrued PTO” balance owed to the employee (the employee accumulates time off as earned, even though cash doesn’t change hands until the employee is actually paid by the employer — in this case, in the form of time off from work).
Appreciation: increase in the value of an asset due to time or market changes
Asset: something of use or value; something that improves or protects cash flows
Bank account: the common term for a financial account consisting of cash funds deposited with a financial institution
Checking account: a bank account that is intended to be used for day-to-day purchasing. Funds may be accessed through payment vehicles such as checks (hence, checking) or debit cards.
Savings account: a bank account that is intended to accumulate cash savings. The account is not intended to be a primary payment account used in day-to-day purchasing, and as such, does not typically come with checks or cards.
Bond: a common form of debt security issued by corporations, governments, or other institutions. The issuing institution raises capital from investors without sacrificing ownership, and pays the investors interest for use of the capital.
Capital: a broad term, similar to asset, that describes something of use or value to the owner. The term is more widely used in business, but is sometimes used in personal finance as well.
Cash, currency: both words are synonymous with “money.” Cash and currency represent a medium of exchange, typically issued and regulated by a government. In the modern world, currency may be tangible, such as bills and coins, or intangible, such as virtual currencies and cryptocurrencies.
Cash flows: inflows and outflows of cash. Cash inflows will typically be in the form of income, and cash outflows may be to pay bills or purchase assets.
Credit:
As a purchasing arrangement: a borrowing arrangement in which the borrower promises to pay the lender back at a later date, often with interest (i.e., purchasing on credit)
As a score: an abbreviated reference to a credit score or credit rating
As a reduction in expense: a transaction in which an amount owed is reduced, often related to a discount or correction of an error. Example: your phone provider “credits” your account balance $10 to resolve an overcharge.
In accrual basis accounting: a credit is a bookkeeping entry that decreases assets, increases liabilities, increases equity (net assets), increases income, or decreases expenses. The opposite of a credit is a “debit.”
Creditworthiness: an assessment of a borrower’s likeliness to pay back debts
Credit bureau: an agency that tracks consumer (personal) credit activities and provides information to potential lenders regarding that individual’s creditworthiness. This comes in the form of a credit report and a numeric credit score. Credit bureaus may sometimes be referred to as credit rating agencies, but the proper technical differentiation is that credit rating agencies evaluate businesses while credit bureaus evaluate individuals.
Credit card: a payment vehicle attached to a credit account. Money is advanced by the lender (issuing financial institution), and then paid back by the borrower (cardholder) at a later date. Credit card issuers often charge interest and fees to the borrower in exchange for the advancement of funds.
Credit rating agency: an agency that provides objective analysis to a potential lender regarding the creditworthiness of a business
Credit report: a report showing payment history, loans, current debt, and other financial information. The report may also show personal information such as job history and certain legal history that is deemed relevant to creditworthiness.
Debit card: a payment vehicle funded by a depository account (i.e., checking account). Funds available on a debit card are restricted to the funds in the account.
Debt: a contractual liability, typically bearing interest. In other words, money owed associated with amounts borrowed from a lender. Student loans, mortgages, auto loans, and credit card balances are some common forms of debt in personal finance.
Debt securities: financial securities in which the issuer borrows money in exchange for future cash interest payments to the investor
Defer: to postpone to a later time
Deferral: in the context of personal finance, the term deferral typically refers to the postponement of a cash exchange. This may be the delay of a cash outflow, such as with deferred taxes, or delay of a cash inflow, such as with deferred compensation.
Defined benefit plan: an employer-sponsored retirement account plan in which individual members (employees) are part of a pool that is administered by the employer. Individual members do not have their own accounts. A pension is the most common example of a defined benefit plan.
Deferred compensation plan: A deferred compensation plan withholds a portion of an employee’s pay until a specified date, typically retirement. These may take the form of a defined benefit plan (i.e., pension), defined contribution plan (i.e., 401[k]), or other benefit programs such as employee stock options.
Defined contribution plan: an employer-sponsored retirement account plan in which each individual participant (employee) owns their own account and determines their own contribution amounts. Retirement savings plans such as 401(k) and 403(b) plans are common examples.
Depreciation: a reduction in the value of an asset due to time and usage. An asset’s value may decrease with time due to its “useful life,” which is an estimate of how long the asset will last or maintain financial value. It may also decrease due to actual usage. Consider the used car market. Older cars with higher mileage cost less because vehicles are expected to eventually stop working.
Dividend: a payment to owners of an equity security
Employer-sponsored benefit plan: a benefit plan offered to employees by an employer at lower or no cost to the employee. The common forms of employer-sponsored benefits are retirement plans, health insurance plans, and other insurance plans.
Qualified deferred compensation plan: an employer-sponsored deferred compensation retirement plan that must comply with the Employee Retirement Income Security Act (ERISA), and as such, have special rules such as contribution limits and certain withdrawal rules.
Non-qualified deferred compensation plan: other employer-sponsored deferred compensation options consisting of a written arrangement between the employee and the employer, and not subject to compliance with ERISA.
Equity:
Personal finance: the share of ownership in an asset (i.e., equity in a home). This is calculated as the value of the asset, minus any amounts owed.
Business finance: the calculation of assets minus liabilities (also referred to as “net assets”). This represents the value of assets unencumbered by liabilities.
Equity securities: financial securities in which the issuer offers stock or shares of the issuing institution in exchange for capital. This means that the investor is acquiring equity (ownership) in the issuing institution.
Exchange-traded fund (ETF): a common form of investment security consisting of a variety of individual securities, such as stocks, bonds, or both. Rather than transacting with a firm or brokerage, individual investors transact with each other directly, and can do so anytime markets are open.
Expense: money or value going out
Income: money or value coming in
Index: a method of tracking the market performance of a group of assets to approximate the performance of the broader market they exist in. Popular indexes in the United States are the Dow Jones Industrial Average (“the Dow”), the NASDAQ Composite Index, and the S&P 500 Index.
Index fund: a fund designed to track a certain index, such as the S&P 500. The fund aims to consist of the securities in the index it’s tracking, and changes over time to closely follow the underlying index.
Individual Retirement Account (IRA): a common tax-advantaged retirement account that is administered by the accountholder. The account is not associated with an employer.
Inflation: a decrease in the purchasing power of money, as reflected in increased prices of goods and services. For example, $1 in 1970 would generally buy much more of a given good or service than $1 in 2020, because the prices of goods and services increased during that 50-year period.
Intangible assets: assets without physical presence. Common examples of intangible assets might include investment ownership or intellectual property such as copyrights or patents.
Interest: a fee charged on borrowed money. Interest and other lender fees are what incentivize financial institutions and other investors (like you) to lend money. Think of it as the cost of borrowing money and the incentive for lending money.
Compounding interest: an interest calculation method in which interest is applied to the total of principal plus accumulated interest, meaning that interest outstanding is also subject to interest charges.
Simple interest: an interest calculation method in which interest is paid only on principal and not accrued interest
Interest earnings: interest earned from holding a debt security
Interest rate: the percentage and method of interest charges, consisting of the expressed percentage rate, calculation period, rate type, and calculation method. For example: “4% annual fixed rate compounding daily.”
Annual percentage rate (APR): an expression of the total cost of borrowing including interest and fees.
Fixed interest rate: a stated interest rate that does not change
Variable interest rate: an interest rate that is subject to change, based on terms defined in the applicable borrowing agreement
Investing: exchanging a resource to acquire a resource of greater benefit
Investment: something that can improve or protect cash flows
Investment earnings: a broad term referring to the performance of an investment; typically refers to earnings from interest, dividends, and appreciation
Liability: amounts owed to another party; an expected burden
Loan: money borrowed, usually in exchange for interest and fees paid to a lender. A loan is a liability to the borrower, and an investment asset for the lender.
Margin: the general term to describe the difference between income and expenses
Market:
As a place: a place where goods and services are exchanged
As an environment: a general term to describe the broader economic ecosystem. This might not be the word’s technically correct usage, but prepare for people to use it in this context.
As value: An abbreviated use of the term “market value” (see below)
Market value: the expected cash value of a good or service. Market value may not be measurable until or unless an actual transaction occurs, thus, estimates are often based on completed transactions involving similar goods or services.
Mortgage: a loan acquired to obtain real property. Mortgages are common because the high costs of home purchases often require buyers to borrow money to pay the full purchase price.
Mutual fund: a common form of investment security consisting of a variety of individual securities, such as stocks, bonds, or both. Mutual funds transact with a firm or brokerage, which then transacts with investors. Mutual funds can only be transacted once per day after a net asset value calculation.
Net worth: in personal finance, the calculation of assets minus liabilities. This is the standard measure of wealth, because it represents the value of assets unencumbered by debt. Think of net worth as the amount of money a person would have if they sold all of their assets and paid all of their debts.
Nominal:
As a stated value: when you think nominal, think “named.” For example, the nominal interest rate and nominal value of a debt security are “named” (stated) in the contract.
As a rate: nominal may refer to a rate that is unadjusted for inflation
As immaterial: nominal may refer to an immaterial or negligible amount, such as used in the term “nominal fee.” Be sure to differentiate between a nominal fee and a nominal interest rate. As mentioned above, a nominal interest rate simply means the rate is stated (not necessarily negligible).
Note: a form of debt offering that may be classified as a debt security, but not always. Notes that are not considered debt securities may not be subject to the same regulations as other debt products such as bonds.
Par: the face value (stated value) of a debt security (defined below)
Pension: an employer-sponsored defined benefit plan in which individual employees are part of a larger pool and do not hold their own accounts, nor do they determine contribution and distribution amounts.
Personal balance sheet: a summary of an individual’s assets, liabilities, and net worth
Principal: the amount borrowed in a debt transaction
Real property: also known as real estate. Includes land and any permanent fixtures, such as homes, buildings, and natural or added resources within the land.
Return:
Nominal return: the net profit or loss of an investment expressed in the amount of dollars (or other applicable currency) before adjustments for taxes, fees, dividends, inflation, or any other things that may influence the true change in value and purchasing power
Real return: the net profit or loss of an investment adjusted for changes in prices due to inflation or other external factors. This method expresses the nominal rate of return in real terms, which keeps the purchasing power of a given level of capital constant over time.
Securities: financial instruments issued by companies, financial institutions, or governments in order to raise capital. Securities are tradable, and may be issued privately or on an open market exchange. Securities are regulated by applicable authorities in an effort to ensure that the issuing institutions provide potential investors with accurate, relevant financial information in order to make informed purchase and sale decisions.
Stock: an equity security issued by corporations or other institutions in exchange for capital from investors. Rather than borrowing money from investors, the issuing institution allows investors to acquire ownership.
Tangible assets: assets with physical presence. Buildings (either residential or commercial), land, and vehicles are common examples of tangible assets.
Tax: a charge imposed by a government in exchange for goods and services supplied to the public
Tax-advantaged account: a personal financial account that receives special tax advantages for investing in a specific purpose determined by the taxing authority. The standard purposes of tax-advantaged accounts in the United States are to support individual retirement and health care costs. The more an individual has saved for their own retirement and health care, the less that individual will rely on Social Security, Medicare, and Medicaid, which are all programs that account for a significant amount of annual federal spending. Common examples of tax-advantaged accounts intended to support retirement savings efforts might include 401(k), 403(b), or 457(b) plans. Tax-advantaged retirement accounts tend to be named after the applicable section of the Internal Revenue Service (IRS) tax codification. For example, the rules related to a 401(k) account are described in section 401(k) of the IRS tax code. Common examples of tax-advantaged accounts intended to support health care costs might include Health Savings Accounts (HSA) and Flexible Spending Accounts (FSA).
Vesting: a type of schedule used to determine the timeline for when a benefit is partially or fully earned by the beneficiary. The beneficiary becomes fully entitled to the benefit when the vesting period has completed. For example, if an employee receives quarterly 401(k) contributions from their employer, and the contributions are subject to a two-year vesting schedule, the benefits would become fully vested after two years. If the employee left the organization prior to meeting the two-year vesting requirement, they would forfeit the prior contributions from the employer, and any earnings associated with those contributions.
Yield: refers to the earnings generated and realized on an investment over a particular period of time. It's expressed as a percentage based on the invested amount, current market value, or face value of the security. Yield includes the interest earned or dividends received from holding a particular security, and is often used as an objective measure to compare security performance.
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