Most personal loan lenders allow borrowers to pay off their loans early, without prepayment penalties. But before you dip into savings or use an influx of cash to pay off a loan, make sure all your financial bases are covered.
Understanding your financial goals — and where loan payoff falls among them — will make managing your loan easier.
Here are five do’s and don’ts to keep in mind if you’re tempted to pay off your personal loan early.
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Do prioritize monthly expenses first
Your monthly expenses — things like rent, utilities and groceries — are what you need to live. But also consider debts like credit cards and student loans as essential payments that you can’t skip, says Kayse Kress, a certified financial planner and owner of DocsFP.
“Whoever you owe money to, those are fixed payments,” she says. “That’s just part of your living expenses that you have to pay.”
Auto loans and mortgages are often secured by your property, and you shouldn’t risk losing your car or home to make an extra payment toward an unsecured loan.
Kress says skipping a debt payment here and there can become a bad habit, so she generally recommends against it.
Do set aside savings
Prioritizing an emergency fund before extra personal loan payments can keep you financially secure if a surprise expense crops up, says Tara T. Unverzagt, a California-based certified financial planner at South Bay Financial Partners.
Your savings protect against worst-case scenarios, like losing your job, a medical emergency or home repair. One rule of thumb for emergency savings is to keep three to six months’ expenses on hand.
Unverzagt says taking a small amount out of savings to send a final personal loan payment a month or so early is fine. Just avoid withdrawing so much or so often that you’re left vulnerable in an emergency, she says.
Do know if your loan comes with prepayment fees
Prepayment fees ensure lenders make money off your loan, even if you save on interest by repaying early.
But few personal loan lenders still charge prepayment fees. To be sure, read the fine print on your loan agreement. If your loan has a prepayment fee, determine if it’s cheaper to pay off your loan balance plus the fee or just continue making regular monthly payments.
Don’t rob your retirement to pay off debt
Suppose your retirement account’s rate of return is higher than your loan’s annual percentage rate. In that case, you might consider splitting an extra loan payment between the accounts, an approach that serves both your immediate desire to be debt-free and your future goals.
Personal loans come with APRs from 6% to 36%, while the return on a Roth IRA, for example, depends on the investments you’ve put in it.
Kress recommends paying down high-interest debt before splitting extra cash among investments and debt payments.
Still, “your loan will never send you money back,” she says. So avoid skipping your monthly retirement contributions to make a few extra payments.
Don’t overthink it
Having your monthly budget and safety net in place is a must, says Taylor Venanzi, Pennsylvania-based certified financial planner and owner of Activate Wealth. Beyond that, he cautions against letting the perfect be the enemy of the good.
Paying off a loan with the extra money you have can be a fine decision if that’s what you want to do, even if that money could go toward lowering your monthly payments on something like a credit card.
“There are really good decisions, and then there’s the best decision,” he says. “Sometimes you just have to weigh the mental benefits of getting one [debt] completely gone versus optimizing which interest rate to pay down.”
FAQs
You can pay off your personal loan early — just make sure to consider other financial goals as part of the decision. Annie Millerbernd is an assistant assigning editor and NerdWallet authority on personal loans.
Is it OK to pay off a personal loan early? ›
In most cases, you can pay off a personal loan early. Your credit score might drop, but it will typically be minor and temporary. Paying off an installment loan entirely can affect your credit score because of factors like your total debt, credit mix and payment history.
Can I clear personal loan early? ›
In most cases, the borrower can opt for a personal loan pre-closure after a year or payment of a minimum of 12 EMIs. When foreclosing the loan, the borrower will have to pay the EMI of the current month, any outstanding dues if there, are and the foreclosure fees.
Can you pay off a personal loan instantly? ›
You can always repay a personal loan early. However, some lenders will charge a significant fee for exiting your loan agreement early.
Can I prepay my personal loan? ›
Borrowers may be allowed to foreclose or prepay their loan 6 months after the date it has been disbursed, without any prepayment penalty. A charge of 2.5% + GST will be levied on any prepayment amount that is over 25% of the principal due. Part prepayment can only be done once in a year.
Does a personal loan hurt your credit? ›
A personal loan will cause a slight hit to your credit score in the short term, but making on-time payments will bring it back up and can help improve your credit in the long run. A personal loan calculator can be a big help when it comes to determining the loan repayment term that's right for you.
Will my credit score go up if I pay off a loan? ›
While paying off your debts often helps improve your credit scores, this isn't always the case. It's possible that you could see your credit scores drop after fulfilling your payment obligations on a loan or credit card debt. However, that doesn't mean you should ignore what you owe.
What if I settle my personal loan early? ›
The benefits of prepaying a loan include: Interest savings: By eliminating future interest charges, you can significantly reduce the total interest paid. Enhanced credit score: Early repayment has the potential to positively influence your credit score.
What happens if I repay my loan early? ›
If you feel this sounds counterintuitive and are wondering why no one would want all their money at one go, think of it this way – when you repay a loan early, the lender will not get the expected interest (for lenders, the interest is their profit). Hence this clause is often put in place.
Can I pay extra amount in a personal loan? ›
Yes, it can be a good option to opt for part payment as you can reduce your EMI over the same tenure. You can also keep the EMI amount same but get your tenure. Either way, in some way or the other, you can save a bit.
Most banks charge a pre-payment penalty if you close your loan earlier than expected. The penalty amount is calculated as a percentage based on either the existing loan balance or the interest the lender will lose due to pre-closure. Generally, the pre-payment penalty is somewhere between 2% to 5% of your loan amount.
How can I pay my loan off early without penalty? ›
5 Ways To Pay Off A Loan Early
- Make bi-weekly payments. Instead of making monthly payments toward your loan, submit half-payments every two weeks. ...
- Round up your monthly payments. ...
- Make one extra payment each year. ...
- Refinance. ...
- Boost your income and put all extra money toward the loan.
Percentage-based fee: Your personal loan prepayment penalty could be a percentage of your loan balance. Let's say that your lender charges a percentage-based prepayment penalty fee of 5%. You also have $5,000 left on your loan. In that case, your prepayment penalty would be $250 (because 5% of $5,000 is $250).
Does it hurt to pay off a personal loan early? ›
If you pay off the personal loan earlier than your loan term, your credit report will reflect a shorter account lifetime. Your credit history length accounts for 15% of your FICO score and is calculated as the average age of all of your accounts.
Can I pay extra on my personal loan? ›
Yes, you can make extra payments on a personal loan. Check to see how your lender handles extra payments and what you'd need to do to set them up. You should also find out if your lender charges a prepayment penalty when you pay off your loan early.
What happens if I pay half of my personal loan? ›
Personal Loans
Right from the start, you have a clear plan for repayment, so any departure from the plan could have a negative effect on your credit score. This includes making only partial payments. Besides a hit to your credit, you may also incur late fees if you make less than the full payments.
Is it better to pay off loan early or late? ›
Paying off a loan early could save you money in the long term as it can reduce the total amount you need to repay. Bear in mind that you need to account for any early repayment charges to help decide if it's the right choice for you.
Is it smart to take out a personal loan for a down payment? ›
Most banks will not accept a personal loan as a down payment on a house because it indicates that you might not be the most reliable borrower. Taking out a personal loan also increases your debt-to-income ratio, or DTI. To get this number, divide your gross monthly income by your monthly recurring debt.
Is it worth it to get a personal loan to pay off debt? ›
As of November 2023, the average interest rate on a personal loan with a 24-month term was 12.35%, according to data from the Federal Reserve. So, by using a personal loan to pay off your credit card debt, there could be significant savings, as the average credit card rate is currently 21.47%.
Is it ever a good idea to take out a personal loan? ›
Taking out a personal loan can make more sense than tapping credit cards or home equity in some cases – but it's not always a good idea to borrow one. There are situations where this could be a good idea, but always remember that taking out a personal loan increases your overall debt.
