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Should You Prepay Personal Loan? Research Team | Posted On Friday, May 17,2019, 05:44 PM

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Should You Prepay Personal Loan?



Personal loans are the most popular loans offered by banks and NBFCs. These loans are generally unsecured. Personal loans have a high rate of interest and must be repaid over a fixed tenure. Many people seek personal loans when they are short of funds or need money in an emergency. Unlike home loans and car loans, personal loans have no restrictions on the usage of funds and that’s the reason why they are so popular.

Prepaying or foreclosing is premature closure of loans. Prepaying is paying part of principal outstanding and foreclosure is paying off the entire loan before time. Borrowers feel that it’s good to prepay the personal loan as they could avoid high interest, which is a sizeable sum. After all, you can heave a sigh of relief, when you don’t have outstanding loans. Following are the factors that you must keep in mind when deciding on whether or not to prepay a personal loan.

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Should You Prepay Personal Loan

Foreclosure Penalties

Most lenders levy penalties when you decide to prepay a personal loan. The prepayment penalty varies across lenders. The prepayment penalty would either be a flat fee or charged as a certain percentage of the outstanding balance. Compare the penalty and the interest you would pay on prepayment of the personal loan vs normal repayments. If you feel you save a sizable sum, then it’s wise to prepay and close the loan.

Some banks don’t charge prepayment penalties on loans with floating interest rate, but most personal loans sanctioned have fixed rate of interest. Some banks sanction personal loans with a lock-in period, it is the period within which you cannot foreclose/prepay your personal loan. You can consider prepaying or foreclosing your loan after the lock-in period.

Before deciding to prepay or foreclose your personal loan, you must calculate the amount you save. You must foreclose the loan only if you save a considerable sum of money, after paying the foreclosure or prepayment penalty. If you are not aware on the prepayment penalties, then you must check with your bank for clarity on the same.

SEE ALSO: Things To Check Before Availing A Loan?

Saving on Principal Amount

You save the most by prepaying at the earliest. There is no point in foreclosing your loan at the fag end of the loan tenure. Prepay at the earliest and save on interest payments on high interest loans like personal loan.

You must note that the interest paid on the outstanding principal remains the same, as lenders calculate interest on the basis of reducing balance method. Hence, you must consider the rate of interest charged on personal loan and mustn’t decide based only on the remaining loan tenure when considering pre-closing or foreclosing the loan.

You can make a part or pre-payment of personal loans. This reduces the outstanding balance and thereby reduces the interest component in your EMIs. This option is good only if you decide to pay off a considerable amount and must be done in the initial days of the personal loan tenure, if not, there’s not much in savings.

Clearing debt is definitely a good idea, but it might not always be a good financial decision. You must ensure that you do the right calculations. Clearly understand the loan terms and conditions and clarify all your doubts with the lender/bank. The remaining loan tenure, the rate of interest and the prepayment or foreclosure penalties are the factors that you must consider when making a decision of prepaying or foreclosing any loan.

SEE ALSO: Documents for a Loan

Advantages of Pre-Closing Loans:

  • Reduces the EMI Burden: Prepaying a loan reduces the EMI burden and you would have extra funds for other expenses.
  • Improves Credit Score: Prepaying a loan, helps improve your credit score as it reduces the burden of EMIs and you can make timely repayments comfortably.
  • Savings: On prepaying a loan, you save on paying interest and this can be a sizeable sum.

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