Is Paying Off Your Car Loan Early A Wise Choice?

Should I pay off my car loan faster?

When you are fortunate enough to be in a financial position that allows you to consider paying off your car loan in full, you may want to hold off on emptying your pockets. While being debt free is an attractive lifestyle choice for many individuals, there are reasons why finalising payments may just fall short of the mark. There are downsides to clearing debt of any kind before the agreed end-date, but what are the potential pitfalls – and do they outweigh the benefits?

First and foremost, check the fine print on your particular loan agreement before making any kind of extra payments (outside of the agreed amount and duration), as advance payments may not be considered the same as paying down the principle in certain policies.

The negatives

The reality of your credit score

Paying off your auto loan won’t automatically give you a good credit rating, nor will it greatly improve your score overnight. While we are often led to believe that this is the case, it tends to be so in relation to paying off other types of loans. Recurring loans (such as credit cards) function on the basis that they can be used, payed off and reused, whereas car loans are instalment-based with fixed rates and a set pay-period. What this means in terms of your credit score is that by paying off in one go, you tend to lose the ability to demonstrate your reliability at paying off regular amounts to credit bureaus.

A well-looked after loan that shows regular payments and a good track record is a current insight to how you are managing your finances. Overall, everything rolls into your credit score, so an early payment won’t go completely unnoticed, but it may not offer the benefits you may have been hoping for.

Is it easy to pay off all at once?

In many cases, it’s not as straightforward as it may seem. There are a range of lenders that simply won’t accept full payment before the loan contracts’ end or will charge you a penalty for doing so. To combat this, you may be asked to pay an additional month’s worth of payment, to offset their potential losses. A good way to tell if you will be able to pay off your loan early is to check if you have the option to refinance it and then go from there.

The positives

Paying loans off can give you more financial freedom in the long run, giving you a little extra money to spend on a regular basis. The money that you save by not paying off consistently (i.e. weekly, bi-weekly, or monthly), you may be able to put away instead, or at the least put to better use.

In general, if you have extra cash to put to good use, it may be worth seeking professional financial advice; paying off another type of loan early (consider loans or credit cards with higher interest rates than your existing car finance) or investing somewhere else could potentially be of benefit.

While it’s never a bad idea to reduce your outgoings and clear debt to improve your debt-to-income ratio, making the right decisions could make that additional money work better for you.

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