People these days have easy access to credit. You can either apply for a personal loan or swipe your credit card to obtain money for emergency, important milestone spending, or to fund lifestyle needs.
The borrowers’ mindset, however, is not geared towards paying off these loans early. For many, it does not make the best financial sense because amortizing is convenient and affordable. But if you have a way to accelerate payments or eliminate debt as soon as possible, it can be an enriching strategy.
1. Borrowing Habits
Personal loans are trending in Malaysia and elsewhere because people are spending more on non-essentials than saving. Others borrow without a definite purpose, which is a waste of money. The indiscriminate use of credit cards, in particular, could ruin your entire financial life.
Credit card companies initially offer low annual percentage rates (APR) and many fall into this debt trap. After the promo period lapses, customers pay higher interest rates and exorbitant fees. When debt piles up, the burden is too heavy to carry. The consequences are bankruptcy and lost access to credit due to a poor credit score.
2. Debts Accumulate Fast
Paying off debts, especially credit cards, can be a long journey. Credit card rates are fixed. This means that the card companies charge interest on a daily basis instead of monthly.
For example, you maximize your RM5,000 credit limit on a credit card with interest rate of 18% p.a. The daily interest rate is 0.049% (divide 18% by 365 days).
Your interest on the first day is RM2.45 (RM5,000 X 0.049%). On the second day, the credit card company picks up the new balance of RM5,002.45 to compute for the daily interest. The balance compounds if you keep paying the minimum amount due. Hence, the payment period can take years.
3. Make the Right Move
Aside from useless spending, accumulating debt is a major obstacle to saving money. By putting a stop to these bad money habits, you are opening the doors to financial freedom. It is easy to lose motivation when debts are mounting. You can avoid a looming economic disaster by following the right move as follows with the following two options.
Option 1
Consolidate your debts. Debt consolidation is a type of loan you obtain to merge multiple loans together. It is advantageous if the rate is lower than the rates of all your existing loans. For example, assuming you have a short term unsecured personal loan at 8% p.a. and credit card debt at 18% p.a. With Co-opbank Pertama Personal Loan offering interest as low as 2.75%, you can lower down your interest rate and in return save more by just consolidating your loan. Let us show a calculation example:
| Personal Loan | Credit Card | Kriteria | CBP Personal Loan |
| RM10,000 | RM10,000 | Amount | RM20,000 |
| 8% p.a. | 18% p.a. | Interest Rate | 2.75% p.a. |
| 3 years | 2 years | Loan Tenure | 3 years |
| RM344 | RM500 | Monthly Repayment | RM580 |
| RM2,400 | RM1,978 | Total Interest | RM860 |
| SAVE = RM264 monthly |
From the table shown above, you can roughly save about RM264 monthly and if you convert that to 12 months, you can save RM3,168 (the stated rates are accurate at the time of writing). Moreover, a fixed rate personal loan is good for budgeting and monitoring purposes. You know the exact amount you need to set aside for monthly payment. That way you are able to protect and maintain your good credit standing.
Option 2
- Organise your debts by the amount due, interest rate and due dates.
- Create a plan that arranges the order of repayment from the highest to the lowest interest rates.
- Make extra or lump sum payments on debts with high interest rates and pay the minimum balances on the rest promptly. Pay within the grace period to avoid additional interest costs. You can extinguish debts one at a time until the balance is zero.
With this strategy, you are bringing down the principal amount while simultaneously diminishing interest costs. The rule of thumb here is that you do not obtain any new loans. Securing debt to pay off debt is not advisable unless you are consolidating debt to place all in one basket.
So, should you payoff your loans early?
In general, it depends on how you evaluate your financial situation. Ask yourself what do you benefit from debt and compare those benefits with the cost of taking up a loan. Sometimes, not all debts are bad.
Nevertheless, it is always advisable to pay up your loans. Paying off loans early will hurt at first, but it is a good choice if you have money to spare for an extra payment. Keep in mind that your money is not your own as long as you have an outstanding debt. Likewise, accumulating debt more than what you can afford to pay can cripple you financially.
But the most compelling reason to pay off loans early is you are buying peace of mind. Start challenging yourself to be debt-free. Each success means one less debt to worry about.
This article is prepared by Direct Lending. We are an online personal lending platform that help borrowers to find, apply and receive simple, safe and affordable financing. If you need some financing help, you can apply with us for free. Rates are as low as 2.75% or as fast as 2 working days.
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