How to manage your personal loan and save money
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Taking out a personal loan can be a helpful way to consolidate debt or pay extra expenses. People commonly use personal loans to pay for weddings or vacations, finance home renovations or funding large purchases, such as a new vehicle.
When you take out a personal loan, it’s important to understand how to manage it. Once you get the money from the loan, you will have to make monthly payments that include the loan amount and interest charged by the lender. Plus, you will be responsible for any fees that come with the loan. Making a plan to manage your loan will set you up for success as you work to pay the lender back.
Be mindful when budgeting
Taking on a loan payment means adding another monthly expense. You will need to account for that as you plan your monthly finances. If you need to make space for the loan payment in your budget, consider eliminating or minimizing spending on items like these:
- Eating out
- Streaming services
- Gym memberships
- Extra travel
- Monthly subscription services
“Rewrite your budget to include the monthly loan payments. If your debt-to-income ratio is too high with the loan, reconsider taking out a personal loan,” recommends Howard Dvorkin, CPA and Chairman of Debt.com.
A debt-to-income ratio (DTI) calculates the amount of debt you have versus how much money you make. It’s generally considered good practice to have a DTI of 50 percent or lower when applying for any type of loan.
Set up autopay
When setting up payments for your personal loan, you often have the option to set up automatic payments. This means the payments will automatically be drawn from a specified bank account at the same time each month.
Setting up autopay can be helpful for a few reasons. First, it saves you the trouble of remembering to make the payments each month. Secondly, many lenders will give you a discount on your interest rate if you set up autopay. This will save you money over the life of your loan.
Pay extra when you can
Paying any extra money towards your personal loan when you can will help you pay off your debt faster. Additionally, paying off the loan early means you won’t pay as much interest and the loan will cost you less — as long as there aren’t any prepayment fees. Here are a few ways to contribute extra money towards your loan.
Add money to your monthly payment
Making slightly larger monthly payments is one way to pay your loan off faster. This will help you pay off your loan quicker and reduce the amount of interest you pay. Even adding a small amount to your monthly payments can make a significant difference.
Make bi-weekly payments instead of monthly
Some lenders will allow you to set up bi-weekly payments instead of monthly ones. Your monthly payment amount will be split in half and charged every two weeks. When you make payments this way, you add an extra payment each year. Paying this extra amount will save you interest because the extra payment each year helps you pay off your loan quicker.
Pay a lump sum amount
If you have landed a large chunk of money or are suddenly making more money, you may be able to make one big payment towards your loan, called a lump sum payment. This type of payment is made just once.
When you make a lump sum payment, your monthly payment amount will stay the same, but it will reduce the amount of interest you have to pay over time. And, if you stay on track, you will be able to pay off your loan sooner.
Consolidating multiple high-interest loans into one loan with lower interest rates can help you pay off debt in a shorter time. “It’s a good idea to consolidate personal debt like credit card debt when you have multiple credit card debts over 10k and you’re having trouble paying the principal due to high interest rates,” Dvorkin says.
If you can qualify for a loan with lower interest rates, consider consolidating your debt. Calculate the difference consolidating will make in your monthly payments to determine if it’s worth it for you.
When not to consolidate
It’s not always the right choice to consolidate loans, though. If the debt consolidation loan comes with a higher interest rate than your current accounts, you won’t save any money. The fees to open a new loan can also interfere with you saving money. Read all the fine print before signing a new loan agreement.
Refinance if it makes sense
Refinancing a personal loan involves working with a new lender to get a loan for your remaining loan amount with lower rates, different payment terms or both. Refinancing can save you money by saving you interest over the life of the loan.
However, if the fees that come with refinancing are high, it may not be worth it for you to refinance. Additionally, if the repayment term with the new loan is longer, you may end up paying more interest over time than you would have with the old loan.
Calculate the amount you will spend on your payments with your current loan versus the amount you will save with a lower interest rate to determine if the cost of refinancing is worth it for you.
Alternatives to refinancing
Refinancing isn’t the only option. Consider these other options:
- Talk to your lender. See if you can adjust your terms or get a lower interest rate. “On-time payments, a good credit history and other factors like this can help in this process,” Dvorkin says.
- Open a balance transfer credit card. These cards typically allow you to transfer debt with minimal fees. And they sometimes have promotional periods where they won’t charge any interest.
- Borrow from a friend or relative. If someone you know personally will lend you the money to pay off the loan, you can save money on interest and make your payments to them. Have a clear agreement and go in knowing how much strain it can put on a relationship.
The bottom line
Managing a personal loan means adding a monthly expense, but there are multiple ways to pay off the loan. It’s a good idea to pay as much as you can toward the loan each month. Even a little extra will save you money on the loan.
Throughout the life of your loan, consider your options. You may be able to consolidate debt into a lower-interest loan. Or you could refinance to save money. However, these options won’t always save you money. Make sure you understand the terms and costs of any new loan you take on.