- Personal loan prepayment can reduce interest payments drastically when done at the right time
- But what is the right time to do so? Read this post to know the same
A personal loan has numerous utilities – it can be given for various purposes (marriage, travel, emergency, etc.) without any collateral. If that is not enough, you also have a seamless documentation process when applying for this loan. Some can even get an interest rate of as low as 10.50% per annum. But who are the lucky ones that get such an attractive rate? They could be someone earning a minimum of INR 50,000 monthly, having a credit score of well above 750 and working in a top-notch firm. However, not everyone is blessed with all these. If they have a good credit score, they may not have the required income and the workplace for getting a lower rate. In that case, the personal loan interest rate can be higher, raising both EMI and overall interest obligations. One can, however, curb the outflow of interest by doing a prepayment, which means paying the entire outstanding balance before the completion of the loan tenure. You are allowed to prepay a personal loan only after the successful payment of the first 12 EMIs.
But what is the right time to do so? Many choose the wrong time and end up having less to negligible savings. So, if you want to know the right time for personal loan prepayment, you have come to the right place. Keep reading and plan your prepayment better.
How to Decide the Right Time for a Personal Loan Prepayment?
Deciding about the right time for a personal loan prepayment will depend on making the required calculations in advance, the financial goals you have set for yourself to achieve, etc. Here are some instances where a personal loan prepayment will come to use. Take a look.
When the Loan Has a Reasonably Long Distance to Cover
A personal loan prepayment pays off when your loan has around 2-3 years left in its journey. As a personal loan is given for a maximum of 5 years, ensuring the prepayment reasonably before the completion of the loan tenure will yield maximum savings for you. Lenders can even charge on personal loan prepayment at 2-4% of the outstanding balance plus taxes. So, if your loan has run for quite long, you would have paid a lot. And, with this prepayment charge, the savings could reduce drastically. An example will help us understand the concept better.
Example – You are currently servicing a 5-year personal loan of INR 5 lakh at 17% per annum. Assume the prepayment charge to be 3% of the outstanding loan balance plus 18% GST. If you do a prepayment after 2 years, how much will you save? In case you do after 4 years, how less will the savings be? Let’s find out!
|Prepayment Aspects||Repayment Estimates When Doing a Prepayment After 2 Years (In INR)||Repayment Estimates When Doing a Prepayment After 4 Years|
|EMI Payable @17%||12,426||12,426|
|Interest Payable @17%||2,45,577||2,45,577|
|Interest Payable Till 2 Years||1,46,768||-|
|Interest Payable Till 4 Years||-||2,32,708|
|Outstanding Balance at the End of 2 Years||3,48,536||-|
|Outstanding Balance at the End of 4 Years||-||1,36,246|
|Prepayment Charges||12,338.17 (3,48,536 x 0.03) x 1.18||4,823.11 (1,36,246 x 0.03) x 1.18|
|Interest Payable Till 2 Years + Prepayment Charges||1,59,106.17||-|
|Interest Payable Till 4 Years + Prepayment Charges||-||2,37,531.11|
|Savings||86,470.86 (2,45,577-1,59,106.17)||8,045.89 (2,45,577-2,37,531.11)|
You could see massive savings when doing a prepayment after 2 years and very less when you do with just 1 year of personal loan repayment left.
When the Loan Amount is Quite High
When your personal loan amount is high, you might not have the required savings to pay off the loan before the original loan tenure. But you can pay a chunk of the outstanding loan balance and still reduce interest payments. Yes, some lenders allow part prepayment on personal loans. So, check with your lender whether it has such an offer. If you want to check the part payment mathematics, we have an example ready for you. Check it and plan accordingly.
Example – In case you have a loan amount of INR 8 lakh at an interest rate of 17% for 5 years, you will have an outstanding loan balance of INR 5,57,658 at the end of 2 years. Now, if you pay INR 1 lakh of the balance amount, how much will you save assuming a part payment charge of 3% plus GST. Also, you have two options when doing a part prepayment – you can either go with a reduced EMI or continue to pay the same EMI. Let’s find out the savings in these cases.
|Part Payment Aspects||Paying the Same EMI After Part Payment (In INR)||Paying the Reduced EMI After Part Payment (In INR)|
|EMI Payable @17%||19,882||19,882|
|Interest Payable @17%||3,92,924||3,92,924|
|Interest Payable Till 2 Years||2,34,828||2,34,828|
|Outstanding Loan Balance After 2 years||5,57,658||5,57,658|
|Part Payment Amount||1,00,000||1,00,000|
|Part Payment Charges||3,540 (1,00,000 x 0.03) x 1.18||3,540 (1,00,000 x 0.03) x 1.18|
|New Outstanding Balance||4,57,658||4,57,658|
|EMI Post Part Payment||19,882||16,317|
|Interest Payable Post Part Payment||99,949||1,29,745|
|Interest Payable Before Part Payment + Interest Payable After Part Payment + Part Payment Charges||3,38,317||3,68,113|
|Savings||54,607 (3,92,924-3,38,317)||24,811 (3,92,924-3,68,113)|
You can see more savings when you pay the same EMI after doing a part payment. Also, when you pay the same EMI after part payment, the loan will run for another 28 months, lower than 36 months when you choose to pay the reduced EMI. Overall, the loan will finish 8 months before the schedule when you continue to pay the same EMI.
When You Have More Than One Debt
Now that you know a part payment is also available, you can use it to reduce your financial burden when faced with multiple debt obligations. Go for the same EMI after part payment and ensure you are free from a personal loan faster. Once that happens, you will feel relieved with one debt less.
When Retirement is Not Far Away
Ideally, one should look to save for retirement days from the time they start working. But not everyone looks into the future at the start as they are more busy enjoying their present. If loans are paid off with a lot of years left for the retirement days to begin, you can accumulate enough. Otherwise, a personal loan prepayment will make sense. If you can’t make a full prepayment, you can make a part payment and still save a reasonable amount for your retirement days.
But How Can You Prepay a Personal Loan?
The possibility of receiving a fat bonus can’t be ruled out. If it happens, you will have a hassle-free prepayment experience. Other than that, you could work out your savings better to accumulate the required sum for personal loan prepayment. Cut down on unnecessary expenses and make good use of your income hike to generate the required amount. Invest in products like mutual funds and fixed deposits from the savings you make month after month. When charting out a savings planner, do use the personal loan EMI calculator and different investment calculators. While the EMI calculator helps you know the amount you need to have for prepayment, the investment calculators help you figure out the amount you need to invest monthly to accumulate the required prepayment sum.