When you begin to understand that a bad credit rating negatively affects every aspect of your life, then you begin to monitor and regularly check your credit score. You try to pay all your bills on time and avoid late payments, as well as looking for ways to improve your credit. One of the ways to improve your credit is to reduce your total debt, so you probably already thought about whether you should pay off a loan early.
But how does this process take place and what consequences can you expect in doing so? Will it ultimately benefit you if you pay off a loan early, ahead of schedule? If you are interested in the answers to these questions, then read on to find out.
Early repayment depending on the type of loan
Different types of loans each have their own characteristics and can have a different impact on your credit score. Before you decide on full pay off a loan early or increase your monthly payment of a certain type of loan, you should understand the features of each of them.
Credit card loans
Credit card loans are revolving credit if you pay off a loan early each month and reduce the credit card balance to zero. When you do that, you will get the same loan again next month, and if you apply for an increase in your credit limit, you can get even a bigger loan.
A monthly full credit loan repayment is one of the best and most effective ways to increase your credit score. In addition, by acting in this way, you can count on a regular increase in the credit limit on your credit card, which will help you improve your credit utilization rate, provided that you do not spend more than before.
Unlike a credit card loans, installment loans work differently. These are one-time loans, the early repayment of which will not have a large positive impact on your credit rating. This can be favorable for your credit only if you have a lot of debt and you need to urgently reduce your large total debt. In another situation, pay off a loan early will not be particularly useful for you.
Moreover, in some cases it may not be profitable for you, since many lenders may charge fees for early repayment. When it comes to installment loans, the most positive impact on your credit score will be simply regular timely payments throughout the loan period.
For most graduates of educational institutions student loans become an element that darkens the best years of their young life because of the constant burden that prevents them from relaxing. This load may also limit your ability when you want to get financing for major purchases, such as a home or a car.
On the other hand, by paying your student loan over the entire term, you show responsibility and stability, which is so appreciated by lenders. This will have a positive effect on your credit score in the long run, so keep paying your student loan, even if you have a good job and the ability to pay off a loan early.
When it comes to student loans, pay off a loan early makes sense when you are going to buy a house or a new car. A few tens of thousands of dollars of debt on a student loan will be a large enough debt to be an obstacle for lenders to approve a mortgage or auto loan for you.
A mortgage loan is usually a large amount of debt that you have to pay for many years. This also does not make your life easier, but whether your own house is not worth it! However, if you have the opportunity to pay off a loan early and get rid of a rock that you have been dragging behind you for many years, then do not rush to do it.
By paying off your mortgage loan ahead of time, you can run into a significant loss of money from your pocket. Since a mortgage is a type of loan in installments, you will not get a big positive impact on your credit rating if pay off a loan early, but you may have to pay a large early repayment fee to the lender.
When it comes to such large and long-term loans in installments such as mortgages, lenders more often include penalties for early repayment in the terms of the loan in order to compensate for the profit that was not received during the years of interest accrual. Therefore, before making such a serious decision, as an early repayment of the mortgage, consult with your lender.
Car loans, as well as mortgages are a kind of loans in installments and can also be quite large, so with them the same story. An auto loan will bring more benefit to your credit if you use it for the whole term than if you quickly get rid of it.
First, check with your lender about the presence of penalties for early repayment, as well as how your payments will be distributed and only then begin to act. If you are going to pay off a loan early gradually, making additional payments or increasing them, then you should know that your money goes not on interest for the entire term of the loan, but on the principal amount. This will allow you to be sure that you paid interest only for the actual period of using the car loan and did not overpay the excess.
Do not rush to close loans
In addition to your credit score, lenders will also closely consider the length of your credit history when reviewing your loan application, so try to make it not interrupted. By closing loans or credit cards, you can break your credit history, and this will hit your credit rating.
If you have several different types of loans, such as a credit card, car loan and mortgage and you will be able to successfully cope with them, then for lenders it will be a sign that you are a reliable borrower.
The ability to manage various types of loans looks attractive to lenders, and your financial capabilities will increase with your credit score. However, you shouldn’t get too carried away with this, because too many loans and a large debt will harm your credit.
If you have questions about whether you should pay off a loan early, you can consult with our financial experts to deal with your particular debt situation. Read our financial blog to find out how you can improve your credit, where you can save money and how to manage your personal finances effectively.