Prepayment of Personal Loan: Is it a Wise Move

There’s no denying that personal loans are the perfect financial product to overcome a cash crunch when in dire straits. They offer easy accessibility and flexibility. Not to mention personal loans require no security, are disbursed with speed and can be used for anything. The hitch, however, is the high rate of interest charged which can increase the financial liability and odds of default.While some borrowers prefer using the entire tenor to pay off the loan in Equated Monthly Instalments, others may consider prepayment as a good option to become debt-free.Closure of the personal loan before the repayment period can not only bring mental peace but also help save money on the hefty interest rate. Appears like a win-win situation, right? But it's not as simple as it sounds since the benefit of prepayment hinges on the lender's terms and conditions. Let’s find out whether foreclosure of your personal loan is a smart move or not.

Full prepayment, as the term indicates means settling off the entire debt in advance before the due date in the agreement. Here are some pros and cons of Full prepayment of personal loans

• Pros: Full prepayment can translate into substantial savings in terms of interest costs. Risk aversion may impel a borrower with extra funds at his disposal to clear the entire principal amount at one go and become debt-free.
• Cons: It’s important to remember that foreclosure of personal loans comes with a penalty fee of about 3% to 5% of the loan amount. Also, most banks have a lock-in period of one year during which the loan cannot be paid off.

A personal loan can also be closed partially. Borrowers with some surplus cash can reimburse the principal portion of the loan, partly. Here are some pros and cons of part prepayment.

• Pros: The deduction naturally brings down the outstanding amount, which will, in turn, reduce both the EMIs and rate of interest considerably.  Partial payments can be made more than once.
• Cons: Banks generally put a cap on the number of times part-payment can be made. Further, they may impose a small fee.  Making a small part payment is not financially beneficial as the penalty levied may be higher than the interest saved.

Well then, is prepayment of personal loan a wise decision? It will certainly prove beneficial if a large chunk of the borrowed money is cleared in one shot after the lock-in period ends. However, make sure to factor the penalty charges related to early loan closure (full & partial) along with other terms and conditions before taking the plunge.

The information contained herein is generic in nature and is meant for educational purposes only. Nothing here is to be construed as an investment or financial or taxation advice nor to be considered as an invitation or solicitation or advertisement for any financial product. Readers are advised to exercise discretion and should seek independent professional advice prior to making any investment decision in relation to any financial product. Aditya Birla Capital Group is not liable for any decision arising out of the use of this information.