What is interest in terms of business finance?

• A. A fee for using borrowed money
• B. A type of investment return
• C. A penalty for late payments
• D. A savings incentive

Answer: (A)

Interest in the context of business finance primarily refers to the fee that borrowers pay for the use of money borrowed from lenders. This fee is usually expressed as a percentage of the principal amount borrowed and is calculated over a specific period of time.

When a business takes out a loan, it agrees to pay back the amount borrowed (the principal) along with the interest, which compensates the lender for the risk taken in lending the money and for the opportunity cost of not being able to use that money elsewhere. Interest is a fundamental concept in finance as it affects the cost of borrowing and the overall profitability of investments.

This definition distinguishes interest from other financial concepts. For example, while a type of investment return does relate to earnings on invested capital, it does not specifically denote the cost associated with borrowing. Similarly, a penalty for late payments pertains to fees imposed not necessarily related to the initial agreement of borrowing money but rather for failing to repay as scheduled. Additionally, a savings incentive usually refers to benefits gained by savings accounts or investments, rather than the cost of borrowing money.

Thus, understanding interest as a fee for using borrowed money is key to grasping its role in business finance.