Personal Loan is considered to be the easiest way to raise quick funds for emergency financial needs, marriage, medical emergency or home renovation. However, being an unsecured loan, banks and financial institutions charge huge annual interest ranging from 11% to 18% on it. By paying only the minimum monthly EMI for a long period (3 to 5 years), more money goes out of your pocket in the form of interest than the principal amount. If you adopt a well-planned financial strategy, you can repay your loan in full one to two years ahead of schedule and save interest ranging from ₹30,000 to ₹45,000 or even more.
Suppose you have invested for 4 years (48 months) at 14% annual interest rate. ₹3,00,000 Have taken a personal loan of:
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General EMI: Approximately ₹8,203 per month.
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Total Interest Payable: ₹93,744.
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Total Payment: ₹3,93,744.
If you make a part-prepayment of just ₹25,000 every year from Diwali bonus or tax refund or increase your monthly EMI by just ₹1,000, your loan will mature in about 33 to 35 months instead of 48 months and you will be able to repay the loan directly Net interest from ₹40,000 to ₹45,000 Will save.
The most straightforward way to reduce personal loan debt faster is part-prepayment. Whenever you receive annual bonus, performance incentive, income tax refund or maturity amount of any old policy from the company, deposit it directly in the loan account instead of wasting it.
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The entire part-paid amount will be credited directly to your Principal Amount is subtracted from.
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As the principal amount reduces, the compound interest charged on it automatically reduces in the coming months. Even a small prepayment made just once or twice a year reduces the loan tenure by several months.
Salaried professionals get annual salary increment (Appraisal/Increment) every year. As your income increases, increase your EMI proportionately.
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If your current EMI is ₹8,000, approach the bank to get it reduced to ₹8,800 next year.
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The extra ₹800 to ₹1,000 given every month is directly deducted from the principal amount. This does not have a major impact on your daily expenses, but in the loan tenure of 3 to 4 years, several months of EMIs are automatically eliminated.
If your credit score (CIBIL Score) has improved to above 750 or 800 in the last few months, you can get your existing loan transferred to another bank.
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If your existing bank is charging you 15% or 16% interest and another reputed bank is offering you 11% to 12%, then opt for balance transfer.
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Even a 3% to 4% interest rate difference can save thousands of rupees over the remaining tenure. Keep in mind that the processing fee charged by the new bank should be less than the total interest savings.
If you have ongoing credit card dues or any other small loan along with a personal loan, prioritize systematically:
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Avalanche Method: First make extra payment on the loan which has the highest interest rate (e.g. 36-40% on credit card or 15-18% on personal loan).
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As soon as the most expensive loan ends, divert the entire amount of that EMI towards prepayment of the next loan. Due to this, the compound effect of interest starts working in your favor.
Before closing the loan prematurely, check your bank's agreement and RBI rules:
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Floating Rate Loan: As per RBI rules, banks cannot impose any kind of foreclosure or pre-payment penalty on personal floating rate loans.
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Fixed Rate Loan: In fixed rate personal loans, banks can charge pre-closure charges of 2% to 4%. However, this 2% fee is negligible compared to the huge interest charged over the remaining tenure. Always calculate what your net savings are even after paying the penalty.