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How can I pay my loan off faster?


Mark Bristow

Mark Bristow


Whether you have a home loan, a personal loan or a car loan, it’s likely that you’d prefer your debt to be paid off as soon as possible. The longer you owe money to a bank or lender, the more interest you’ll be charged, until the total cost eventually exceeds any benefits offered by the loan.

Here are five tips to help you pay off your loan more quickly, and start enjoying the benefits of a debt-free lifestyle:

Make repayments more frequently

If you currently make loan repayments once per month, consider switching to once per fortnight, or even once per week. Depending on how your lender calculates interest, a larger number of smaller repayments could ultimately pay off more of your loan each year, reducing the principal owing so you’ll be charged less interest in years to come. This could ultimately cost you less in total interest, meaning you pay less for your home or investment property.

Example

According to the ASIC MoneySmart mortgage repayment calculator, a hypothetical $400,000 mortgage paid back monthly in $2000 instalments at 5% interest will be fully paid back in 35 years and 11 months, and ultimately costing $861,835.
Switching to fortnightly payments of $1000 cuts this time down to 29 years and 5 months, and cuts the total cost down to $763,228.

Make larger repayments 

The other way to make a dent in your loan’s principal, reduce your future interest charges, and get out of debt sooner, is to pay more than what’s required each month. As long as you can comfortably afford these larger repayments without stretching your household budget too much, this short term pain could ultimately lead to longer-term benefits.

Example:

Using the previous loan ($400,000 loan, 5% interest, $2000/month) as an example, if you took a long, hard look at your household budget and worked out that you could afford to increase your repayments by 10% to $2200 per month, your loan should be paid off in 28 years and 5 months and cost $749,769.

This tip also works in reverse. If you’re looking at paying back a mortgage over a 30 year term, consider also considering a shorter loan term of 25 years. You’ll need to make higher repayments each month, but you’ll likely pay less in total interest, and be out of debt sooner.

Get a better interest rate, but keep making the same repayments

After a few years of holding a mortgage, you may be able to refinance your loan, either by getting a better deal from your current lender or switching to a new one. Refinancing a home loan can let you enjoy a lower interest rate, which can mean lower minimum monthly loan repayments. While this can save you money each month, and let you put more of your household budget towards enjoying your lifestyle, it may be worth also considering other plans.

If you could comfortably afford your mortgage repayments before refinancing, then sticking to this original repayment plan as if you still had the higher interest rate could get your remaining debt paid off much more quickly, which could in turn bring lifestyle benefits of its own.

Example:
Following on from the original example ($400,000 loan, 5% interest, $2000/month), if you were to switch to a lender offering a 4% interest rate, but continued making $2000 monthly repayments, the loan would be repaid in 27 years and 7 months, and cost $660,265.

Ignore the honeymoon rate

Some lenders offer a low introductory interest rate, AKA honeymoon rate, to new customers. While this low rate is intended to attract new customers with affordable repayments, it’s worth thinking about ignoring this low rate and making your repayments as if the regular non-honeymoon rate was in effect, much like the previous tip.

By making a dent in your loan’s principal early on, you’ll be setting yourself up for lower interest payments later in the loan’s lifespan. Plus, you’ll avoid any rude shocks when your honeymoon rate reverts to the standard interest rate, and your repayments increase with it.

Use an offset account

An offset account is a savings or transaction account that is linked to your home loan, with any funds in the account being included when calculating your loan interest.

Example:
Once you’ve paid back $100,000 of a $400,000 loan, you’ll be charged interest on the $300,000 you still owe. But if also have $50,000 in an offset account, your lender will instead calculate your interest as if you only owed $250,000.

Some borrowers have their wages or salary paid directly into their offset account, and leave as much as possible to accumulate in the account, only spending what they need. This can help to reduce the loan’s interest charges over the long term, meaning the mortgage can ultimately cost less and be paid back sooner.

It’s also important to remember that some offset accounts require you to pay fees or higher interest rates, so consider whether you can realistically afford to keep enough balance in the account for your interest savings to outweigh these extra costs.

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