An installment loan is a loan that is repaid over a specified amount of time with small and numerous payments. Installment loans are the typical types of loans that are acquired when you purchase a car, home, or other large item. The loans can be used for educational purposes as well. Interest will be tacked onto these loans and will need to be paid back. Typically, the longer the loan, the more interest you will have to pay. Making loan payments on time each month is a fairly easy practice. However, you may decide to pay off the loan in full before you need to. Keep reading to learn why this may be a bad idea.
Why You Should Not Pay The Entire Loan Back Early
If you have a car loan or have borrowed a relatively small amount of money, then you may decide to pay back the full loan well before it must be completely satisfied. This may be a great idea to save yourself some money on interest payments. Interest paid over the course of the loan will likely total several thousand dollars. For example, if you borrow $12,000 for a car and your interest rate is 10%, then you will pay $3,297.87 in interest if the loan is a 60 month one. However, if the loan extends 48 months, total interest paid will be $2,608.85. As you can see, total interest can increase substantially by extending a loan for only one year.
The math shows that you will save money, but if you pay off the loan sooner, your credit score may take a hit. On time payments shows a favorable financial history, and this will increase your credit score over time. Also, the total loan amount will be factored into your available credit. If you take out a $12,000 loan, then your available credit will increase by $12,000. Your debt load will also be $12,000. Debt load decreases as you make loan payments, but the available credit will remain at $12,000. Your credit score and your ability to successfully apply for a new line of credit partially depends on your ratio of debt to available credit. If you pay off the car loan, then your available credit will decrease by $12,000.
If you have a few credit cards that are maxed out, then your credit report will suddenly reflect that you are using all the credit that is available to you. Your credit score may remain the same for some time, instead of raising. You also may find it more difficult to open a new line of credit.
Also, some lenders will actually charge a fee if you pay off the loan early. While the loan termination fee is not likely to be high, this will reduce the amount you may be saving on future interest.
Lowering Your Interest Rates
If you are concerned about throwing money away in interest payments, but you still want to see your credit score rise, then consider trying to lower your interest rate. Your best option is to refinance your loan. You can speak with your initial lender to see if they will offer you a lower rate. However, some banks do not like to refinance car loans that they currently hold. Lower rates are often offered to new customers to bring in new business, so you should look around at other banks and lenders to see if they will assist you with refinancing.
If a different lender offers even a 1% decrease in your interest rate, then you may not think that refinancing is worth it. However, you will likely save yourself quite a bit of money. A 1% decrease can save you at least several hundred dollars over the course of the loan. Before you try to refinance, make sure that your credit score has risen at least a small amount since you took out the initial loan. Also, investigate the current average vehicle loan rates in the country to make sure they are lower than the interest rate on your loan.
If you still have questions, click here for more info, or contact a local loan company.
Share26 May 2016
When I began my first business selling sports equipment locally, I knew the sports-world well, and I knew how to run a business. One thing I did not know a lot about was the financial world. I had never applied for a loan in my life other than when I financed my car with the dealership in-house financing. My first application at a large bank was denied. I began looking into my other options, and I found that there were more lenders for new businesses than I realized. I applied at local credit unions, local banks, and other business lending services. I was able to secure more funding than I even expected, and my credit is just average. I created this blog to help other new business owners realize that there is funding out there. You just have to find it and apply! Don't give up on your dream.