Advantages and disadvantages of prepaying your installment loans
Being in debt for a long time can be costly and stressful. That’s why, in some cases, paying off a loan as soon as possible may seem like the wisest decision to make.
At other times, a change in financial situation would cause you to pay off your loan sooner than expected. Perhaps you received a work bonus or received a large sum from your inheritance. In these cases, paying back the money sooner would make a lot of sense. It will give you a lot of relief if you get rid of the monthly loan repayments.
While it may seem like prepaying loans is a good idea, it also has its downsides. There are a lot of factors to consider before requesting a refund.
To help you decide whether or not you should prepay your loan, we have put together in this article the pros and cons of prepaying your installment loans.
Here are the advantages:
Peace of mind
Eliminating a monthly obligation on your back can have a huge impact on our mental health. It helps reduce stress and improve our well-being. You no longer have to worry about making monthly amortizations on time. You will finally have peace of mind and relief from the burden of any obligation.
In some cases, prepaying loans equals paying less interest long-term. Hence, you will save a lot of money by paying long term interest. This is especially true when you have loans that have higher interest rates. However, this may not always be the case.
Increase your net worth
When you reduce your liability, it will result in higher net worth. Apart from that, it will result in an improvement in your debt ratio. This means that you will be more attractive to investors and other lenders, especially when you seize new opportunities. Maybe when you have a pending loan application with another bank, you will have a better chance of getting approved because you have significant equity.
Paying your debts early would show lenders that you are a good payer. It will help you build your character, which will allow you to get better terms for your future loans.
While paying early has undeniable beneficial effects, it also has a few drawbacks:
While it is true that the reimbursement of your installments early on won’t hurt your credit score, nor might it do it any good, especially when you’ve only made a few payments yet. Experts in the field strongly advise borrowers to keep their accounts open for the duration of the loan in order to improve their credit rating, rather than paying it off in a hurry.
Better use of money
Depending on the type and amount of your debt, paying off everything can net you a considerable amount of money. From another perspective, it might be better to invest that amount of money instead of using it to pay off a loan that is not yet due or that is not that heavy.
Maybe you can spend your money on high income generating activities rather than paying a low interest loan. Consider investments that would generate higher interest savings than you might get by prepaying a loan.
Possibility of future liquidity problems
While paying off your debt sooner might sound like a good idea now, that doesn’t mean you won’t regret it later. It is possible that a prepayment could hurt your financial situation afterwards.
You may need immediate cash later and have already used the available funds to prepay your loan. It is still best to weigh your choices before becoming aggressive in paying off your debt. Remember to always keep cash with you. Otherwise, it will create long term cash flow problems.
In mortgage lending, getting into debt is quite essential, especially for young borrowers. Therefore, maximizing your debt and making timely payments can be very helpful in building a strong credit history. With a good credit history are other benefits that come with a loan, such as more affordable long-term payment terms or freebies, etc. When you give up on a loan sooner, you are also giving up on those opportunities.
In some loans, you will save interest if you pay them off early. However, for some loans, prepayment penalties may apply. These penalties are generally high and unnecessary. So, before you decide to prepay a loan, carefully review your lending policy and talk to bank representatives about whether it’s worth repaying your loan early.
To take with
Indeed, having debts can take a heavy toll on your savings, which is why some people would choose to pay off loans as quickly as possible. Fortunately, with all of the above, you now know that this is not always the wisest decision. There are factors you should consider before choosing to prepay a loan. This decision is always on a case-by-case basis. Therefore, it would be best to assess the pros and cons of your option first before diving straight into it.