What does interest refer to in a lending scenario?

In a lending scenario, interest is defined as a payment made to the lender for the usage of borrowed money. When an individual or entity borrows funds, the lender provides the capital and expects to be compensated for the risk of lending as well as the opportunity cost of not having the money available for other uses. Interest serves as the cost of borrowing, typically expressed as a percentage of the loan amount over a specified period.

This understanding is crucial as it distinguishes interest from penalties or fees associated with loans, such as late payment charges or early repayment penalties, which operate under different principles. The compensation for the use of funds incentivizes lenders to provide loans and is foundational to financial transactions involving borrowed money.