If you find yourself with a little extra money available at the end of every month, the prospect of partaking in early loan repayments to quickly pay off your debt can be a tempting one. Yet while doing so boasts an array of obvious advantages, it’s not always the optimal repayment strategy. Let’s take a look why…
The advantages of early loan repayment
Save money on interest
Undoubtedly the best reason for paying off your debts as early as possible is to save money in the long-run by no longer paying interest. Regardless of whether you’ve borrowed a high-interest or low-interest loan, APR (Annual Percentage Rate) can soon add up – especially if it’s over a long fixed-term.
When paying your loan off early, you stop paying interest from the moment the loan is cleared. As such, you’ll find yourself with a little extra cash each month that would otherwise be spent meeting often excessive interest rates.
Strengthen your financial portfolio
Naturally, once all your debts are cleared, you’ll be in a far stronger financial position than you were when you were repaying the loan. Though the initial upfront cost of early repayment may leave you financially worse-off for a few months, you’ll be in a far better situation in the long-run without having to make any more monthly repayments.
Furthermore, by opting for early loan repayment and subsequently proving your repayment reliability, you become a far more attractive borrower. Your credit score and debt to income ratio will be improved, meaning you’re more likely to be approved for future loans.
It’s no secret that debt can be a primary cause of stress and worrying. Opting for an early loan repayment, therefore, can make a significant improvement to your mental state – which can have a knock-on effect in all aspects of your life. Subsequently, paying off your debt early can be an immensely rewarding feeling.
The disadvantages of early loan repayment
The money could be saved
If you’re comfortable in the belief that your monthly repayments are completely manageable, it’s always worth considering whether there’s better ways to utilise your extra cash than paying off your loan early.
Perhaps the most important consideration to make here is ‘do I have enough savings?’. While the prospect of being debt-free is understandably appealing, this is arguably not as important as having sufficient savings for a rainy day (assuming that you’re comfortably able to keep meeting monthly repayments). Financial situations can change quickly and easily, so keeping extra cash in reserve instead of splashing out on needless premature repayments is always a good idea to ensure stronger financial security.
You may be subject to additional fees/penalties
The majority of lenders charge fixed penalties for early loan repayment to ensure they don’t lose out on the profit they would’ve made from interest. There’s no set rate, however the fee is commonly the equivalent of 1-2 months’ worth of interest. Of course, this may well still be cheaper than paying off the loan across the originally agreed term, however these costs will be upfront rather than spread month-to-month. Subsequently, it’s vital that you consider whether you’re financially strong enough to pay off both your remaining loan amount and the penalty fees at the same time.
Different lenders use different terminology, so it’s not uncommon for these penalties to be referred to as ‘early repayment penalties’, ‘early redemption fees’, ‘redemption charges’ or ‘financial penalties’ – whatever the lingo, they all mean the same.
Whether or not early loan repayment is right for you very much depends on your personal situation, but it’s key to thoroughly consider both the pros and cons before reaching a conclusion. If you decide paying off your debt early is the best move for your financial future, simply call your lender and explain your desires – it’s often as easy as sending off the extra money, either on top of your usual monthly payments or in one larger fixed sum.
For further financial tips and advice, check out the Jolly Good Loans blog – and remember, there is always help available if you’re experiencing particular financial trouble. Visit the Citizens Advice website or call the free national debt helpline on 0808 808 4000.