Personal loans come most handy during financial emergencies. Even without emergency, many prefer them over other funding options due to their reliability, versatility, and quick availability. Since they come with no end-use restrictions, borrowers can use them for numerous purposes, from education and vacation to home renovation, weddings, and medical emergencies.
Their popularity is unmatched in India as they do not require borrowers to provide collateral. However, one should consider several factors before borrowing funds. If a borrower is confident about their chances of paying off the loan amount before the full repayment term ends, they can explore a prepayment of a personal loan.
It’s always good to know the pros and cons of anything before taking a decision. Here, we will learn more about personal loan prepayment and its pros and cons.
How Does Personal Loan Prepayment Work?
When you pay off your outstanding loan amounts entirely or partially before the term ends, it’s called loan prepayment. However, paying off the loan earlier than the scheduled tenure requires the lending institution to change and manage the borrowing schedule and process accordingly, so they charge prepayment fees. Since prepayment has pros and cons, many people need information about whether it is a smart financial strategy.
Before going in for partial prepayment, try a personal loan calculator to calculate the new EMI and plan the expenses accordingly.
The Pros of personal loan Prepayment
- Money Saving on the Interest Cost: Prepaying a personal loan saves money on the interest cost you would have paid during the remaining loan period. Even if the NBFC charges prepayment fees, the money saved is more than the nominal charges. Moreover, you save money on EMI payments by paying the loan sooner.
- Increased EMI Affordability: Lending institutions prefer applicants whose total financial obligations are less than 30-40% of their monthly income. That is why applicants surpassing this limit have less probability of getting personal loan approval. Prepaying the personal loan reduces their debt-to-income ratio and improves their eligibility for further loans.
- Reduced Share of personal loans in the Credit Portfolio: Your credit portfolio should be a balanced mix of secured and unsecured loans. As the credit mix gets more diversified, credit bureaus see it positively and improve your credit score.
- Become Debt-Free Sooner: Prepaying a personal loan helps clear off the debt sooner and relieves you from the stress of EMI payments during the remaining tenure.
- Increased Credit Score: Prepayment of a personal loan significantly boosts the credit score by establishing a clean history. It immensely assists in obtaining more loans in the future with better-negotiating conditions.
The Cons of Personal Loan Prepayment
- Lump Sum Amount to be Paid Upfront: Prepaying a personal loan requires a substantial amount to be paid in a lump sum, limiting your financial stability.
- Compromise on Emergency Funds: You should be mindful while prepaying the loan, as you might need that amount for financial emergencies in the future.
- Prepayment Charges: The prepayment charges may reduce the decision’s expected financial benefit.
Before exercising the personal loan prepayment option, consider all the pros and cons discussed in this article to make an informed decision.
About the Author
Amaira Sharma is finance expert and former business growth strategist who has more than 8+ years experience in the industry, now she helps others to get better financial stability and standards. She loves to write useful tips on personal finance and businesses.
