Today, there would be very few people who do not have at least three-four loans. And when one is living with so many debts, it is not necessary that repayments go as planned.
The general practice is to repay a loan as per the cash flow one receives. But, often, when people find repayment difficult they resort to another loan to clear the existing debt.
This method of repaying loans only pushes people into debt traps. But, making rational decisions on repayment can help reduce unnecessary liabilities. For this, it is necessary to pay attention to a few things.
The main factor that needs to be considered while planning to repay a loan should be the interest rate. Home loans and auto loans are the ones that are relatively inexpensive. Currently, home loans are available at interest rates of 7-7.5 per cent, while auto loans are being provided at 8-8.5 per cent. The interest rate on personal loans is 9-12 per cent. Therefore, the priority should be to increase the EMI for repayment of the personal loan.
Public sector banks are now offering gold loans at 7-8 per cent. At the same time, the interest rate charged by private gold lenders is above 12 per cent. This can be up to 20 per cent depending on the amount demanded per gram of gold. In such cases, the decision to clear a liability should be made by comparing the interest rates on the personal loan and the gold loan.
Credit card loans
Credit card loans are good for essential things as they are usually an interest-free loan for up to 55 days. However, this is a double-edged sword as it could turn out to be dangerous if it is not used carefully. If possible, it is better to clear the loan by the due date.
As the interest rate is above 36%, priority should be given to repay this loan first. Select the EMI facility in credit card loans only if you are very strained financially.. If the loan is converted into an EMI, then it must be repaid promptly.
As the interest rate on auto loans is around 8-8.5 per cent, this may be the next consideration while thinking of repaying loans. Auto loans typically have a repayment tenure of 5-7 years. After clearing this loan, if there are personal, credit card and/or mortgage loans, repay them first before thinking of upgrading your vehicle.
A home loan should be considered last for repayment as it carries the lowest interest rate and also offers income tax deductions.
As your income goes up, increase your monthly repayments (EMIs) that will help you repay the principal faster and save you lakhs on interest.
You can opt for a higher EMI towards the loan after checking with the bank about the income in the form of interest that you can get for the higher amount you desire to pay.