what is a loan

Loans: What are Loans and How Do They Work?

May 9, 2023

Learn more about what is a loan and how do loans work to weigh your options and make the best choice for you.

Are you looking to learn more about loan basics like what is a loan? Then you’ve come to the right place! 

The Check City Loans 101 section of the Cash Academy blog is where we talk all about loans, what is a loan, different kinds of loans, and the ins and outs of how loans work.

So, if you’ve ever wondered, what is a loan? or how do loans work? Then hopefully this article will help.

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What is a Loan?

what is a loan definition

What is a loan? A loan is a finance term and a financial product. In the most general terms, it is a type of credit.

It is a lending agreement that allows a borrower to borrow an amount of money from a lender. 

There are many loan types to learn about when learning, what is a loan. Some common types of loans include payday loans, personal loans, installment loans, and title loans.

How Do Loans Work?

Now that we know the answer to what is a loan, how does a loan work? All loans follow a basic process that includes an application, rejection or approval, and terms and conditions that outline things like payment and interest rates. 

This process may look different depending on the financial institution and the borrower's credit history. But many loans may follow similar steps to the 5 steps outlined below: 

Step 1: A potential borrower applies for a loan

Step 2: The lender goes over the loan application 

Step 3: The lender approves or rejects the loan application

If the application gets approved, then these steps will continue . . . 

Step 4: The lender funds the borrower the loan amount 

Step 5: The borrower makes monthly payments to pay off the loan

When you borrow money, it is important to remember that there will be a cost to this transaction.

Every lender is different, but many lenders charge rates and fees, like origination fees, on top of loan payments.

So, if you qualify for a loan, whether that be an unsecured loan, an auto loan, or a credit card, be advised that you will most likely accrue additional costs like interest rates and fees. 


how do loans work in 5 steps

How loan funds are given to borrowers depends on many factors like the type of loan, the lender, the loan amount, preferred deposit methods, and more. 

A borrower could receive loan funds in the form of a check, direct deposit into an account, or even cash. 

Some loans are used for very specific purposes like a mortgage. In this situation, money is not funded directly to the borrower. Instead, the lender makes a large payment on behalf of the borrower, and the borrower then repays the lender. 

For instance, if a borrower takes out a mortgage, the mortgage lender will pay for the home, and then the borrower will repay the mortgage lender gradually over time. 

When learning what is a loan, you'll find that there are many kinds, and each comes with its own loan process. Below we'll go over a few different kinds of loans and how they work. 

How Do Business Loans Work? 

how do business loans work

What is a loan for business and how is it different? Businesses and organizations also sometimes need a loan.

If you want to start a small business, then you might need funds to help cover the costs of getting started.

If your business is going through a rough patch, then you might need funds to help you stay in business until things get better. 

Learn More About Financial Resources for Small Businesses.

In order to take out a loan in the name of a business, you will probably need to have the bank account information for your business’s bank account. 

This is so that you can file the application in the name of the company. This will also make it easier to get the funds you need deposited into the right professional account. 

How Do Car Loans Work? 

how do car loans work

There are two different kinds of loans that can be associated with this name.

One type of car loan is the kind that helps you buy a car. A lender pays for the car you choose, and then you pay back the lender until you've paid the car off. 

Another type of car loan is the kind that allows you to access the value of your car to secure a loan. For these types of loans, you'll need to already own your car outright. 

Learn More About Title Loans.

In order to take out a title loan, you’ll most likely need to bring your car and its title to the lending location. A brief inspection may be required as the lenders assess the market value of the car. 

How Do Home Equity Loans Work? 

how do home equity loans work

Home equity loans are loans that allow you to access the value of your home to secure a loan. This type of lending can also sometimes be called a second mortgage. 

Your home equity is how much of your home’s total value you have paid off and now own vs how much you still owe in a mortgage. 

These borrowing amounts are usually given to approved applicants in one lump sum, and then paid back over a series of installments. 

How Do Student Loans Work? 

how do student loans work

Student loans help pay for college tuition. Sometimes they also go toward other college expenses like housing and textbooks. 

Student loans can be taken out by enrolled students through either federal student loans or private student loans. 

Federal student loans are given out through Federal Student Aid or FAFSA.

Private student loans, on the other hand, are given out by other banks, credit unions, and online lenders.

Many student loans don’t accumulate interest while the student is still enrolled full-time in college, but you’ll have to check your loan agreement to be sure. 

How Do Construction Loans Work? 

how do construction loans work

A construction loan is a type of loan that pays for the construction costs of a home or other real estate property.

Sometimes, construction loans can also be used to help pay for home renovations. 

This type of lending is usually set for a 1-year term. This loan type might also call for special things like a project timetable, construction plans, and a certificate of occupancy once the project is complete.