Key Terms to Improve Your Financial Literacy

Financial literacy isn’t something that many of us are taught in school, but it’s essential when managing your money. It gives you the basic foundation of knowledge that can help you thrive.

If you feel you lack the knowledge you need, you might have to learn it on your own. Familiarizing yourself with some basic personal finance vocabulary can be a good place to start.

Finance terminology might seem confusing at first glance, but you don’t need to be a CPA or a financial advisor to make sense of it. Getting to know some of the most common personal finance words can help you build a stronger money foundation.

Read on to do just that, as you learn:

•   What is financial literacy

•   How a financial vocabulary can benefit you

•   Key terms that will improve your financial literacy

What Is Financial Literacy?

You might hear a lot about financial literacy but not know exactly what it means. In simple terms, being financially literate means that you have some money knowledge as well as the ability to put it to work.

Money skills can be learned in the classroom, at home, and in the real world as you navigate things like opening a bank account or taking out student loans. Becoming financially literate is important because it can help you to:

•   Have a positive money mindset

•   Act more responsibly with regard to saving and avoiding debt

•   Build wealth and plan for the future

If there are gaps in your financial education, it’s never too late to fill them. Learning some personal finance basics for beginners, including key financial literacy vocabulary, can help you get on track with your money goals.

What Is Financial Literacy Vocabulary?

Financial literacy words are simply the various terms you’ll see used again and again when discussing different money topics. For example, there are personal finance words related specifically to banking, others that are focused on insurance, and more that deal with investing.

Do you need to be a walking dictionary to understand finance and make the most of your money? Not at all. But you can benefit from knowing what certain finance terminology means and why it’s important when making money decisions.

Understanding financial literacy vocabulary can also help you avoid potentially costly money mistakes. If you’re taking out a mortgage, for example, it’s important to understand concepts like amortization and closing costs so you know exactly what you’re paying to buy a home.

Recommended: Guide to Practicing Financial Self-Care

Personal Finance Words to Know

Ready to improve your financial knowledge? Here’s an alphabetical list of some important terms to add to your personal finance vocabulary.

1. Budget

A budget is a plan for deciding how to spend your money each month. Making a budget means adding up your income, then subtracting all of your expenses.

The goal of a budget is to ensure that you’re not living beyond your means and that you have money left over to work toward your goals.

There are different budgeting techniques, like the 50/30/20 rule or the envelope system, and there are different categories people want to set guidelines and guardrails for. For example, you might want to start an emergency fund or pay down debt.

2. Cashier’s Check and Certified Check

Cashier’s checks and certified checks are two types of official checks banks can issue as a form of payment. So what’s the difference between a certified vs. cashier’s check?

Cashier’s checks are drawn on the bank’s account while a certified check is drawn on an individual’s account. Between the two, a cashier’s check is generally considered to be a safer way to pay since the bank guarantees the amount.

3. Certificate of Deposit

A certificate of deposit (CD) is a time deposit savings account. When you open a certificate of deposit, you add money to the account and agree to leave it there for a certain amount of time, known as the term. The bank pays interest while your money is in the CD and when it matures (or reaches the end of the term), you can withdraw the initial deposit and the interest earned.

A CD is not the same as a regular savings account or a high yield savings account. With savings accounts, you can generally withdraw money up to six times each month or possibly more without any penalty. You’re not locked in the way you are with a CD.

4. Compound Interest

Compound interest means the interest you earn on your interest. That’s different from simple interest, which is paid on your principal balance only. Compounding interest is central to investing, since it’s what allows you to build wealth and increase your net worth over time.

5. Credit

Credit means borrowing money with the promise to pay it back. When you open a credit card account, for example, the credit card company issues you a credit line that you can make purchases against. You use the card to buy groceries, get gas, or cover other expenses, then pay that amount back to the credit card company.

A credit card is revolving credit, since your balance can go up or down over time as you make purchases and pay them back. Loans are a form of installment debt, since the balance only goes down over time as you make your scheduled payments.

6. Credit Score

A credit score is a three-digit number that measures how responsible you are financially. Your credit scores are generated from information in your credit reports. A credit report collects details about your debts, including payment history, balances, and available credit.

FICO scores are the most commonly used credit scores. These scores range from 300 to 850, with 850 being considered a “perfect” credit score. The better your credit scores, the easier it usually is to qualify for loans and credit cards.

7. Debt

Debt is money owed to someone else. A debt may be secured, meaning that it’s attached to a specific piece of collateral. Collateral is something your creditor can take possession of if you fail to repay the debt. So if you own a home, for example, your mortgage is a debt, and your home is the collateral.

Unsecured debts don’t have any collateral, so if you fail to pay them, your creditor has to pursue other means to collect what’s owed. Credit cards, medical bills, and student loans are examples of unsecured debt.

8. Debt to Income Ratio

Debt to income (DTI) is one of several important personal finance ratios to know if you’re trying to improve your financial literacy. Your debt to income ratio means how much of your income goes to debt repayment each month.

So why is that important? The more money you put toward debt, the less cash you have to save and invest. And when your DTI is too high, that could make it harder to qualify for a mortgage or other types of loans.

9. Emergency Fund

An emergency fund is money that you set aside for unplanned or unexpected expenses. When you save for emergencies, you’re saving for the unknown, versus setting aside money for a specific goal like a vacation or new furniture.

But you may wonder, how much emergency savings should I have? Saving three to six months’ worth of expenses is a commonly used rule of thumb but ultimately, your emergency fund should reflect the amount that you need to feel comfortable.

10. FDIC

The Federal Deposit Insurance Corporation (FDIC) is an independent agency that’s responsible for maintaining stability in the banking industry. One of the ways the FDIC does that is by insuring banks in the rare event of a failure. If you have accounts at an FDIC-insured bank, they’re covered up to $250,000 per depositor, per account ownership type, per financial institution.

11. Financial Planning

Financial planning means creating a plan or strategy for reaching your financial goals. Creating a financial plan is something you can do on your own or with the help of a financial advisor. If you’re not sure how to go about finding a financial advisor, consider what type of planning services you might need first. That can help you decide if you should work with an online advisor or seek out an advisor in person.

12. Gross Income and Net Income

Understanding gross income and net income are central to making a budget. Your gross income is all the money you earn before any deductions or taxes are taken out. Your net income is the money that hits your bank account, once you take out things like taxes, health insurance, and retirement plan contributions.

If you’re not sure about the difference between your gross pay and net pay, reviewing your pay stubs can help. You should be able to see a breakdown of everything you earned and everything that was deducted for the pay period.

13. Health Savings Account (HSA)

A Health Savings Account (HSA) is a savings account that’s attached to a high deductible health plan. An HSA allows you to set aside money for health care expenses on a tax-advantaged basis.

It’s easy to confuse HSA with other health insurance terms, like HMO. But the difference between HMO vs. HSA is that HMO stands for Health Maintenance Organization and is a type of health care plan. An HSA is a special type of health care savings account.

14. Inflation

Inflation is a rise in prices for consumer goods and services over time. In the United States, inflation is generally measured by the Consumer Price Index (CPI). When inflation rises, the things you spend money on every day cost more. Understanding inflation is important for managing your budget but it can also affect how you invest your money.

15. Investing

Investing money means putting it into the market or other vehicles in the hopes that it will grow in value. Investing money is not the same thing as saving it. When you save money, you might park it in a savings account, CD account, or money market account. There’s virtually no risk of losing money, especially if your bank is FDIC insured.

When you invest money, however, you’re using it to buy stocks, mutual funds, real estate, cryptocurrency, and other investments. You can potentially get a much higher rate of return with investing vs. saving, but you’re usually taking more risk. And if an investment doesn’t pan out, you could lose money instead of growing it.

16. Life Insurance

Life insurance provides a death benefit to your beneficiaries when you pass away. Buying life insurance can offer peace of mind if you’re worried about how your loved ones might be able to pay the bills if something were to happen to you. There are different types of life insurance to choose from, depending on your needs and situation. Life insurance, along with a will, are often part of a comprehensive financial plan.

17. Money Market Account

What is a money market account? In simple terms, it’s a deposit account that blends features of a savings account and a checking account. You can deposit money and earn interest on the balance. If you need to withdraw money, you may be able to do so using a linked ATM card or by writing checks. But those withdrawals are not unlimited; banks can still cap you at six withdrawals per month. Also known as MMAs, these accounts are not to be confused with money market funds, a kind of mutual fund.

18. Net Worth

Net worth is the difference between what you owe and what you own. To calculate net worth, you’d add up all of your debts, then subtract that amount from the value of your assets. An asset is anything that has a positive value, such as a home, retirement account, or CDs. Net worth can be positive if you have more assets than debts, but it can be negative if your debt outweighs your assets.

19. Overdraft

Overdraft is a banking term that means you’ve spent more money than you had in your account. Banks can allow certain transactions to go through, even if you don’t have enough cash in your account to cover them (say, paying a $100 check you wrote when there’s only $85 in your account). The bank covers the excess amount for you and charges an overdraft fee for that convenience.

Your bank may give you the chance to opt into overdraft protection. When you opt in, the bank can transfer money automatically from a linked savings account to cover overdrafts. You’ll still likely pay a fee, though it might be less than the standard overdraft fee.

20. Time Value of Money

Time value of money means the relationship between time, money, and interest. The longer the time frame during which you save or invest, the more money you save, and the higher the rate, the more your money will grow.

The Takeaway

Expanding your personal finance vocabulary can give you a better understanding of how your money works and how to make it work for you. Knowing these terms can grow your financial literacy and help you achieve your goals.

One of the fundamentals of good money management is having a bank account that works for your needs and lifestyle. When you open a SoFi bank account, you can get checking and savings together in one place. SoFi makes it easy to keep track of spending and income online and through the SoFi mobile app. When you open an account with direct deposit, you can earn a great interest rate and pay no account fees, which can help your money grow faster.

FAQ

What are the four pillars of personal finance?

The four pillars of personal finance are income, expenses, assets, and debt. Income and expenses are important for creating a budget. Assets and debt reflect the difference between the things of value that you own and the money that you owe to other people.

What are financial skills?

Financial skills are the skills you use to manage money. For example, budgeting is a financial skill, since it requires you to understand the difference between income and expenses and prioritize spending in a prudent way. Financial skills can be learned at school, at home, or through daily experiences.

Why is financial literacy important?

Financial literacy is important for helping you to better understand your financial situation. When you know how to make a budget, create a plan for saving and investing, and use debt responsibly, it becomes easier to get ahead financially. On the other hand, lacking financial literacy skills could make you more susceptible to poor decision-making, like overspending or carrying high-interest debt.

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