- Flexibility on loan repayments
- switching to a new loan to save money
- Advantages of early repayment
- Early redemption penalties
- process for overpayment/repayment
- what to do if problems occur
Just like any other debt or bill, you need to repay a personal loan fully, and you should always repay on time. Anyone who fails to make the regular loan repayments is risking the chance of a poor credit rating which can damage future borrowing.
However, if you are unhappy with the amount of interest or any other aspect of the agreement of personal loans, there are some steps you can take to reduce the total cost of the loan.
Borrowing money is always going to come at a cost. This might include a setup fee or an arrangement fee. Furthermore, there is always the interest from the loan. Finally, you might want to repay the loan off in full before the end of the term. This is likely to come with an extra cost.
Finding a personal loan that is flexible is the key to reducing the overall costs of borrowing. This is where good research comes into play.
There are some banks and finance companies which offer not just good rates of interest on personal loans but also flexibility about payments.
Switching An Existing Personal Loan
Let’s say you have seen an offer of a personal loan at a much better interest rate than the one that you are currently repaying. It is not a given that switching your loan to the lower rate will save you money. That is because there may be penalties for clearing the current agreement. However, even if there is extra interest to pay you might still be able to save money overall.
With current interest rates at an all time low and lenders seeking to attract more business, a new loan could save you money. This is possible if you switch to one with a lower interest rate and a shorter term.
Of course, this may not be possible. If you are unable to make a higher monthly payment but if you have had a recent pay rise, it might be a good route to go down. It’s beneficial because it will mean your debt you pay off your loan much earlier and it will cost you less.
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Can I Repay Off My Personal Loan At An Earlier Date?
It is true that if you can repay a personal loan earlier, you are going to save money. Regulations surrounding early loan repayments came into law in February 2011. These changes mean that most overpayments will not incur a penalty.
The only way to discover whether you can make an overpayment is by looking at the small print in the loan agreement document.
Banks and other lenders positively love consumers who save and those who have debt. It means that they have your savings to lend to others and the difference in rates is their profits.
Is It Advantageous To Repay A Loan Earlier?
Lenders make money by charging more interest to borrowers than they pay to savers on their accounts. Clearly, for borrowers, it is to their advantage to repay a debt earlier. Putting your extra or available money into a saving account will reduce costs in interest.
See the example below
If you use savings to repay a loan, you are always going to save money. But, is this always the case?
High-Interest Savings Accounts Versus Loans
Borrowing money at a very low rate of interest can be advantageous if you have savings in an account that pays a higher rate. e.g. an ISA or fixed rate savings account that runs for a five-year term. Check out the rates of both savings accounts and loan offers before making up your mind.
Early Loan Repayments
Early repayment penalties sometimes apply for personal loans. These penalties may also be called early redemption fees, redemption charges or financial penalties.
An early redemption penalty means that the lender expects you to pay out a certain sum of money if you want to clear your debt before the end of the loan agreement date.
However, since the enactment of regulations under a Consumer Credit Directive of February 2011, there are only a certain amount of situations when lenders can ask you to pay for early redemption of a loan.
Personal Loans Taken Out Before June 2005: The Rule Of 78
This is a rule which was abolished in June 2005. Therefore, it is very unlikely to affect anyone with a current personal loan. It only affects those with an open ended loan agreement. Under the rule of 78, a borrower is required to pay an amount of interest both on the principal amount of the loan and the borrowing term.
This complicated rule meant that loans taken out at this time would attract extra interest if an early repayment were made. It caused some borrowers to owe more than the original amount.
Loans with no early repayment penalty
Personal loans taken out from June 2005 to February 2011 will be subject to an early repayment penalty. The rule, however, limits this penalty to two month’s interest. Early repayments in the lifetime of the loan make the penalty higher. Lenders give you a higher penalty because the interest outstanding is higher.
For this reason, it is important to carefully calculate whether it is advantageous to make an early repayment. A reputable financial advisor will be able to help you with this decision.
Limits For Overpayments
Personal Loans that were taken out after February 2011 have a different rule. Most unsecured personal loans will fall into this category. The regulations enacted now state that anyone can make a partial or full repayment of a personal loan of up to £8,000 per year without being charged a penalty.
If you want to pay more than the £8,000 and completely clear the loan, then the lender can only charge you a maximum of 1% of the sum repaid.
Extra loan repayments made in the final year of a personal loan are limited to a 0.5% interest penalty. Splitting the overpayments could also save money.
An example of how this works is shown below.
Example of a £9,000
Overpayments Over £8,000
Overpayment of £9,000
Fee of £90 for going over the overpayments limits of £8,000
Overpayments Up To £8,000
Overpayment totalling £8,000 one year plus a final payment the following year of £1,000
Fee of £10 for the interest accumalated from the £1,000
Overpayments Which Can Attract Fees
A lender can prove justification for an early redemption fee. For example, if personal loan interest rates are lower now than when the loan was taken out, then they will be losing out. This is because when the money is lent out again to a new borrower, the new customer will pay less in interest. In this circumstance, a lender may be justified in charging an early redemption fee.
Repayment Of A Loan or Overpayment: The Process
No matter which lender has facilitated your borrowing, the process for early repayment is the same. You need to notify the lender of your intention to repay in full or to overpay either by phone, letter or email. You must always give the lender 28 days notice.
When the 28 day notice period is up, you simply make the payment. However, it is always best to obtain confirmation that the lender has received your notice of repayment. Ask for information on how this will affect the status of the loan.
Following the repayment/overpayment, the lender must send notification of the new balance, changes to the interest and any fees that have been charged.
If you fail to give notice of repayment/overpayment, then the lender might assume that this is an advance payment. There will be no tangible financial benefit.
Problems With Early Repayment Of A Personal Loan
Under the new regulations, all lenders are obliged to accept overpayments or early loan repayments of personal loans. Make sure you have followed the necessary steps i.e. giving notice and receiving confirmation. If you have, there should be no problems with the process.
Lenders are not allowed to make things difficult so that it prevents you repaying or making an overpayment early. If they do this, the next step is to make a formal written complaint and to go through the lenders’ complaints procedure. Following no resolution of the problem, you can contact the Financial Ombudsman. This service is free of charge to consumers.
The Financial Ombudsman will make an impartial decision. If the lender has acted incorrectly, they can be fined.
Note: A complaint to the Ombudsman will cost the lender a fee regardless of the outcome. Most companies, therefore, will always try to settle matters amicably before it gets to that stage.
Terms And Conditions Of Personal Loans
Each personal loan has a set of terms and conditions. These should be carefully studied and considered before making an early repayment of the loan. However, clearing a loan earlier is almost always going to help you pay less in interest and fees. Clearing off debt is a satisfying feeling. Furthermore, it will help your creditworthiness should you wish to take out a new loan in the future.
Summary: Personal Loan Repayments and Overpayments
In this last section of the guide, Personal Loans Now discusses reducing the cost of the loan, loan repayments and overpayments. You could do this by switching lenders, overpaying or early redemption. It is always advantageous to make an overpayment or to repay a loan earlier. However, we also discussed that there are different rules for personal loans that have been taken out on various dates.
Furthermore, there are fees for overpayments. Personal Loans Now described the process of overpayments or early redemption. We suggested how to deal with any problems that occur from overpayments or early redemption. Finally, we also looked at how the Financial Ombudsman oversees complaints.