Is it better to pay off a loan early or later?

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LOS ANGELES, Sep 22, 2021 (GLOBE NEWSWIRE) – Getting rid of debt can be a good idea when someone has the extra cash to do it. In some cases, however, repaying a loan on time can be the better financial step.

There are some pros and cons of each strategy that borrowers should weigh before making a decision. There are a few things to consider when deciding whether or not borrowers should prepay a loan.

Advantages of early repayment of a loan

Positive effect on credit and future borrowing opportunities

Early loan repayment reduces the likelihood that a borrower will miss a payment or be late. This will help prevent potential credit damage.

In addition, early repayment of a loan can improve the borrower’s debt to income ratio, which is a measure of their monthly debt payments compared to their monthly income. A lower debt to income ratio can help borrowers obtain mortgages and other large loans.

Peace of mind

Repaying a loan can give borrowers security. You no longer have to worry about earning enough to cover these payments or not paying, and no longer have to worry about the consequences like fees and recoveries.

Disadvantages of early loan repayment

Less money for other expenses or financial goals

Borrowers need to increase their monthly payments to prepay their loans. This can put a financial burden on some borrowers who may not have a large amount of money after costs.

Borrowers could also lose opportunities for higher returns elsewhere. If a borrower could get a return on an investment that is higher than the interest rate on their debt, that investment may be a better option.

Prepayment penalties

Some lenders charge early repayment penalties on loans. This means that borrowers could owe an additional fee if they pay off the loan early. This is disclosed in the fine print so borrowers should review all loan terms before signing. Note that Advance America does not charge any early repayment penalties.

Benefits of timely loan repayment

Better cash flows / less financial burden

Making the minimum payments on a loan each month can free up more of the borrower’s money for monthly expenses. Borrowers on a tighter budget might consider sticking to the loan payment schedule.

More money to build an emergency fund

Borrowers who pay off their loan on time may have more funds each month to add to their emergency fund. By building up an emergency fund faster, you will run into less debt when paying unexpected expenses like a car repair or a medical bill. This can also give the emergency fund more time to earn interest.

Disadvantages of not paying off a loan early

More money lost through interest

The longer borrowers have an outstanding loan, the more money they can pay in interest. A timely repayment of a loan can make the loan more expensive than an early repayment because the borrower pays more interest overall.

Possibility of missed or late payments

Holding a loan longer increases the likelihood that a borrower will miss a payment or be late paying. Not only do these incur fees, but they can also affect their creditworthiness.

Should borrowers pay off loans early or on time?

Borrowers with good disposable income might consider repaying a loan early if they can easily afford it – especially if it has a high interest rate. All you have to do is watch out for prepayment penalties. However, these borrowers may also consider paying off the loan on time while using their extra cash to set up an emergency fund or pay other expenses.

On the other hand, for borrowers on a tight budget, paying off the loan on time may be the right option. It’s worth paying more interest over the life of the debt in order to have enough cash to cover your essential expenses.

Borrowers should make the decision to repay a loan early or on time based on their particular circumstances. Both options can be ideal depending on the borrower’s situation and loan terms.

Note: The information in this article is provided for informational purposes only. Check with your financial advisor about your financial situation.

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