When you have more money available, debt repayment is often a good choice. In addition to the psychological benefits of being free from debt, you can enjoy measurable financial benefits. Paying off loans early is not always the best strategy, but it is rarely a terrible one.
To decide what is best in your case, evaluate how you can benefit from debt and compare these benefits for the cost of keeping credit in place. You can usually save money by eliminating debt early, but you might have good reasons to take an alternative approach.
For now, we’ll focus on the benefits of debt reduction, but you should also be aware of some possible disadvantages of paying off loans early on.
Saving money by paying off loans
The best reason to pay off debts early is to save money and pay more interest. Interest costs do not buy anything except the ability to pay slowly. Your house will not get bigger if you pay interest on a mortgage, and you won’t get your interest back if you sell.
Some loans last for 30 years or more, and interest costs add up over time. Other loans could have shorter terms, but high interest rates make them more expensive. With high cost debts (like credit card debts), it is almost a no-brainer to pay off as quickly as possible: minimal payment is a bad idea.
Over the course of your life, you will keep more of what you earn if you pay off loans quickly.
So what’s the compromise? If you pay down debts below, you cannot use your extra money for other things. That could mean you enjoy less luxury in your monthly budget, or you do with a smaller cushion of money (making it more difficult to pay unexpected expenses). What’s more, you pay the opportunity cost: you will have to come with additional funds to set other goals (retirement or a down payment on a house, for example).
In rare cases, you don’t save early by repayment because the costs are already baked into your loan. For example, you benefit less from prepaid “pre-calculated” loans, but you still eliminate the monthly payment.
Saving for the future: Once you pay down debts, you are in a stronger financial position. The money you’ve made on monthly payments will be made available for other purposes. Hopefully, direct these funds to other goals.
Improved relationships: You also become more attractive as a borrower. Lenders need to be sure you have enough income to repay loans, and existing loans aren’t already eating too much of their monthly income. To do this, they calculate the percentage of income that goes towards debt payments, known as the debt to income ratio. If you pay off loans early, you will improve your debt to income ratios and are more likely to get approved for a new loan on favorable terms.
Better Credit: Your credit scores can also improve if you pay off debts. Part of your credit score depends on how much you are currently borrowing, based on the maximum amount you could possibly borrow. If you are maxed out, your credit scores will be lower, but debt-free pay up creditworthiness, which hopefully you won’t have to use. More details on how your credit limits affect your credit.
Peace of mind
Eliminating Debt Stress can be rewarding and reduced. In fact, some people choose to repay loans as quickly as they can, even if they know that it doesn’t make the best financial sense. This is fine as long as you are aware of what you are doing and why.
You can’t bring a prize to luck. Perhaps you want to reduce debt before you become sick of monthly payments, or you hate the idea of paying interest to lenders. Assess the pros and cons of using debt, and make an informed decision that you can live with.
How does it go?
Now that you know more about these loans paying off, you can be excited to move forward. In many cases, it is as easy as sending extra money whether you wipe out the debt with one payment or just pay a little extra each month. Call or email your lender and explain what your goals are. Figure out how to proceed so that your payments are properly credited to your account (reducing the loan balance instead of already counting payments) and so that you know exactly how much to send.
More detailed instructions and tips on how to pay off debt early. Especially for credit card debt, learn how to choose a strategy that will work.