Personal Loans are the most widely used financial product be it for travel, festival celebrations, buying gadgets or wedding preparations without any restrictions. In spite of its convenience, it also the costliest as it is unsecured and the interest rates are high. So, you have to optimize its benefits while reducing its costs. How to do that? Consider pre-payment.
What is pre-payment? Pre-payment is when you pay off your outstanding loan amount entirely or partially before the due date defined in the loan agreement. You may find it liberating to pay off your debt before the deadline; but, is it always a smart and economical option?
Here are the few merits and demerits of early closure of a personal loan to be considered before making a decision
Pros of Pre-payment
a) Full Pre-payment
A personal loan usually has about one year of lock-in period after which you can make pre-payment the total outstanding amount, saving a good pie of the interest. However, you do have to pay interest on pre-payment too. The rates may vary from bank to bank usually ranging from 3% to 5%. If you research well, you can find some public or even private banks or NBFCs that don’t charge you a penalty on pre-payment of personal loans. So, you can have the benefit of immediate money in the case of a cash emergency, without it burning a hole in your pocket in terms of high-interest rates.
b) Part Payment
If you have enough cash which is not adequate to pay the entire outstanding principal amount, but you could lessen your loan burden to a large extent, then you can choose a part payment option. It can bring down the unpaid principal amount which will ultimately bring down your monthly EMIs as well as the total interest. If you opt for this option, make sure you make a part payment as early as possible to save more by reducing your interest.
c) Become Debt-Free
Most of the borrowers will prefer the pre-payment option, to lead a debt-free life. The financial implications apart will relieve you of the stress of having to make payments each month for many years to come.
a) Penalty on Pre-payment of a Personal Loan
Pre-payment penalties may vary across banks and NBFCs. Certain banks may even charge these penalties at a flat rate or as an interest for a certain number of months.
b) Losing access to huge amounts at once
It would be smart to invest the same money that you are using for pre-paying your loan in a financial product that offers better rates of return. You can always pay in installments and use the money in hand to buy something useful instead.
Therefore, before you make a decision to partial pre-payment or foreclose a loan, you should compare the additional interest out-go to the pre-payment or foreclosure charges and make a wise choice!