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Can you pay off personal loans early?

When it makes sense and when you should wait

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Paying off debt is a smart money move in most cases. But when it comes to paying off a personal loan early, there are some important considerations. From additional fees to changes in credit score, it is essential to know if repaying your loan early will hurt your finances more than help.

Key insights

  • Some lenders charge a prepayment penalty if a borrower pays off a personal loan early.
  • Getting rid of debt is good — unless it puts you in a situation where you deplete your savings.
  • Debts with higher rates might be worth paying off first to save you money on interest charges.

Pros of paying off a personal loan early

For those who can afford to pay off their loan early, there are several perks. For instance, you'll save money on interest if you pay off your personal loan early. Every month you eliminate from the payment schedule by sending extra money to be applied to the principal of the loan reduces the amount of time you'll make payments as well as the total amount of interest you'll pay over the life of the loan.

Additionally, paying off your loan early eliminates the loan from your monthly debt payment obligations, which reduces your debt-to-income (DTI) ratio. This gives you more breathing room in your budget and may better position you to qualify for future loans. Since you no longer have to make monthly payments, you can use that money for other debt repayment or savings.

Cons of paying off a personal loan early

Reducing your overall debt load is a great financial goal, but paying off a personal loan early can have consequences, too. Financial expert Derek Sall said there are some downsides to paying off your personal loan early.

“It may be wiser to invest,” said Sall, who is the founder and lead of Life And My Finances. “Say your personal loan is only 3%. Instead of paying that off, perhaps you could earn 5% or more on your money instead.”

Depending on your lender, you may be subject to a prepayment penalty if you pay off your loan early.

While you may save money on interest and eliminate the stress of owing money, you can also negatively affect your credit score by reducing your credit mix or missing an opportunity to build good credit with on-time payments.

When you pay off your personal loan early, the lender reports that activity to the credit bureaus. The loan is considered "closed" on your credit report. Closed accounts don't weigh as heavily with the FICO credit score algorithm as open accounts, so all your on-time payments make less of a difference to your credit score after the account is paid in full.

» MORE: Guide to getting a personal loan with a co-signer

What to consider before paying off loan early

Here are a few things to think about before you pay off your personal loan.

While many personal loans don't have prepayment penalties, this fee is relatively common among lenders that serve subprime borrowers (those with lower credit scores). You can determine if your loan has a prepayment penalty by contacting the lender directly and asking if the payoff amount includes any fees or penalties. You can also check your loan agreement.

Prepayment penalties start at about 1% of the outstanding balance on your loan. A lender may also charge a flat fee or a certain number of months’ worth of interest.

It's worth your time and effort to find out whether you face these fees and how much they are if you decide to pay off your loan early. For prepayment to be worth it, the prepayment penalty should be less than the amount of interest you'd pay if you were to complete the full loan term.

If your personal loan is the only installment loan reporting your payment activity to the credit bureaus, eliminating the loan could negatively impact your mix of different credit types, which may cause your credit score to decrease slightly. Paying off your loan early will also reduce the positive effects of your on-time payment history for the loan.

An online credit score simulator like the FICO Score Estimator or the FICO Score Simulator, available through the Experian CreditWorks Premium subscription service, can help you anticipate how paying off your personal loan ahead of schedule may impact your credit score.

If you're trying to qualify for a mortgage, talk to your loan officer before you take any action that could impact your credit score.

Before you stretch your budget or dip into savings to pay off your loan early, calculate the savings. How much will you really save by paying off the loan early? Sometimes the savings are not as significant as you think, and the money is better used to pad savings to start investing or to keep your emergency fund healthy. 

“Before paying off your personal loan, be sure to first have at least one month's worth of expenses in savings,” said Sall.

If you have higher-interest debt or credit card bills, it might save you more money to pay those off before your personal loan.

There is one thing to bear in mind if you plan on applying for another loan soon: Reducing your personal loan balance to zero lowers your DTI ratio. If you're trying to qualify for a requires a mortgage or another type of loan that DTI ratio under a certain percentage, paying off your personal loan could help.

How to pay off a personal loan early

To pay off a personal loan early, you can either make extra payments toward the principal balance or pay a lump sum. The first thing you need to do is to contact your lender or read your loan agreement to determine if there is a prepayment penalty. Find out if the lender counts extra payment toward the principal or if you need to specify when you send the money.

If you have a set timeline for paying off your loan early, you can calculate how much extra per month you need to repay. An early loan payoff calculator can make these calculations easier. If you don’t have a specific early payoff date in mind, you might try doubling payments each month or rounding up your monthly payment to the nearest hundred dollars.

If you are ready to repay your loan as a lump sum, ask for a payoff quote, which should include a deadline for paying to avoid extra interest charges. Keep in mind that paying off your loan through an online account can eliminate costly delays that can occur when paying via check.

» MORE: How to use a credit-builder loan to establish credit

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    How much is the penalty for paying off your personal loan early?

    Few lenders charge a prepayment penalty, but those that do charge a percentage of the remaining balance, a flat fee or a certain number of months’ worth of interest. The lender must clearly state the details of any prepayment penalty in the agreement you sign to accept the loan. If you can’t determine if there is a prepayment penalty as part of your personal loan, contact your lender and ask.

    Can I refinance my personal loan?

    You can refinance your personal loan with the same lender or a new one. Refinancing can make sense if you can secure a lower interest rate or if you need to extend the repayment term. Note that refinancing your loan is essentially getting a new loan, which means you will have to pay fees again.

    Do I need to inform my lender that I plan to pay off my loan early?

    It can be helpful to contact your lender before paying off your loan early, especially if you are unsure about a possible prepayment penalty. You may want to verify the exact payoff amount and find out if there are special instructions for sending the payment.

    Bottom line

    Before deciding to pay off a personal loan early, evaluate the loan's annual percentage rate (APR). If it has a lower APR than some of your other debt, like a credit card or car loan, then paying those first could save you more money in the long run. You should also consider where the payoff funds are coming from. Are you going to drain your savings or emergency fund to pay off the debt? If so, you could be putting yourself at risk of going into debt again if an emergency or a big, unexpected expense comes your way.

    ConsumerAffairs writers primarily rely on government data, industry experts and original research from other reputable publications to inform their work. To learn more about the content on our site, visit our FAQ page. Specific sources for this article include:
    1. Experian, "Do Personal Loans Have Prepayment Penalties?" Accessed Jan. 20, 2023.
    2. Experian, “Will Paying Off a Personal Loan Early Help My Credit?” Accessed Jan. 20, 2023.
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