Better to make huge monthly payments or one lump sum?
Posted by MarkApr 17
I have a loan at 6.6% interest and a savings at 4.5%….Is it beeter for me to make huge monthly payments on the loan to pay it off in 8 months or to save my money in a savings and make one lump sum payment to pay off the entire loan? Which would be faster? Why?
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Whoa, balloon payment!
Paying off in lump sum doesn’t build credit. That’s negative.
However, IF you can afford it, have the extra money, and won’t be penalized for paying down the entire thing. GO FOR IT — Pay it off. You’ll be money ahead and have the loan monkey off your back.
"chris" you miss read. I’m advising the asker to pay it off if he is comfortable doing so.
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If you have the money to pay off your debt that pay off your debt.
As for what Strigidae said. It is not negative to pay it off. Why do you want to build your credit? TO PUT YOUR SELF IN MORE DEBT. Think about it.
Pay off the 6.6% loan with huge monthly payments.
Every dollar you don’t pay to the loan costs you 6.6% annual interest, or 0.55% per month, but only earns 4.5% annual interest, or 0.375% per month.
In this case, paying the money as fast as you can is like investing those same dollars at 6.6%.
The above analysis does not take into consideration the advantages that having the cash on hand and available to you for other purposes, should you need it in an emergency. Once you’ve paid it to the loan, it is no longer available to you. That is something for you to consider.
The sooner you pay off the loan the better. The calculations that Laissez-F… Guy showed are correct. Actually the difference is even greater, since the interest in saving account is taxable, while interest paid in most loans other than home loans and some school loans is not tax deductible. Also, as far as paying off right away, yes for a short period of time you may end up without savings — true, but your cash flow immediately improves upon paying off the loan, so you will be able to build up your savings very quickly, as you can continue "paying" that loan but to yourself.
Is this a house or car loan?
If it’s either of these, then consider how the loan works.
When you take out a fixed term loan, they figure how much interest will accrue in that time period. Then they add it to the loan and that’s how they figure your payments. Additionally, when you pay a loan, it starts off that all of your payment goes to interest, no principal. About the middle of the loan, your payment is divided pretty close to 1/2 interest and 1/2 principal. At the end of the loan, it’s all principal.
So, having said that, if you make one lump sum payment, then you will pay all of the interest that they originally calculated. Whereas, if you make, regular large payments, then it will shorten the "life" of the loan (term) and you won’t pay all the interest. BUT, instead of making one huge monthly payment, make one payment that is the regular amount and then send a separate payment for the balance of what you want to pay that month. What this does is satisfy your payment from the "front" of the loan (interest), but the other larger payment will come off the "back" of the loan (principal), thereby lowering the amount of interest that you will pay for the life of the loan. It only takes a few principal payments to dramatically decrease your interest on a 15 or 30 year loan. They have to be made separately, though, from your regular payment. If you send them in together as one lump sum, then they will just give you credit for the multiple "front" payments, with no interest adjustment.
***The only exception to all of the above is, if in your loan terms, it says, that there is an early payment penalty. Then you need to decide if the penalty is equal to the interest savings you will see. If it is equal or higher, then don’t pay it off early.****