What Is Loan?
A loan is a type of debt. Like all debt instruments, a loan entails the redistribution of financial assets over time, between the lender and the borrower.
In a loan, the borrower initially receives or borrows an amount of money, called the principal, from the lender, and is obligated to pay back or repay an equal amount of money to the lender at a later time. Typically, the money is paid back in regular installments, or partial repayments; in an annuity, each installment is the same amount. The loan is generally provided at a cost, referred to as interest on the debt, which provides an incentive for the lender to engage in the loan. In a legal loan, each of these obligations and restrictions is enforced by contract, which can also place the borrower under additional restrictions known as loan covenants. Although this article focuses on monetary loans, in practice any material object might be lent.
Acting as a provider of loans is one of the principal tasks for financial institutions. For other institutions, issuing of debt contracts such as bonds is a typical source of funding.
Types of loans
Secured
A secured loan is a loan in which the borrower pledges some asset (e.g. a car or property) as collateral for the loan.
A mortgage loan is a very common type of debt instrument, used by many individuals to purchase housing. In this arrangement, the money is used to purchase the property. The financial institution, however, is given security — a lien on the title to the house — until the mortgage is paid off in full. If the borrower defaults on the loan, the bank would have the legal right to repossess the house and sell it, to recover sums owing to it. In the United States and many other countries, the bank however is the only institution that does not need to have the funds to provide you with the loan. They are allowed to create this money based on reserve requirements which can be anywhere from 3-10% see the book Modern Money Machanics issued by the Federal Reserve. Once you sign the loan document, all the bank needs to do is to create a credit on your account ledger which you will pay off in time with interest. Since the money remains within the Federal Reserve banking system no actual bank notes need to be printed. This is how the nation’s money supply is expanded and is known as the Fractional Reserve System.
Source : http://en.wikipedia.org/wiki/Loan
