Personal loans have become a common alternative for those with financial difficulties. People prefer personal loans because they have flexible repayment options and provide instant funds that meet their financial needs. However, there are several factors you should be aware of before asking for a personal loan, such as the prepayment penalty.
In this article, we will discuss the prepayment penalty on personal loans in India, including the many forms, how they function, and the benefits.
What is a prepayment penalty?
A prepayment penalty, also called an early repayment fee, generally appears in a lending agreement that states if the borrower pays down or pays off the loan amount before the term period, usually within three years of taking out the loan, the lender will impose a penalty.
Prepayment is different from pre-closure charges, In, the borrower pays off pre-closure lump sum of money to close the loan amount. But in pre-payment, a penalty is declared based on the loan amount or remaining set of months’ interest.
These penalties are associated with long-term loans and are also applicable to personal loans in India. Prepayment penalties are designed to safeguard lenders from the financial loss of future interest income.
How does a prepayment penalty on personal loan work?
Pre-payment penalties are mentioned in agreement contacts by lenders to safeguard lenders from financial loss. These penalties can added based on the loan amount or the remaining set of months’ interest. If a borrower pays the entire debt in a single payment, certain penalty charges apply called pre-closure charges.
The actual cost of prepayments can vary based on the percentage of a loan, the early payoff cost, and the fixed fee. The prepayment penalty depends on how much you borrowed. However, paying off early can save you on interest charged
Things to know about prepayment penalties
Choose a lender who does not charge extra for prepayments penalty:
Usually in prepayment, the lender loses interest. As a result, the lender can charge the borrower a higher interest rate for prepayment. It is preferable to find a lender that doesn’t charge additional fees for prepayment penalties.
Review the personal loan agreement:
The loan agreement fully states the terms of pre-payment penalties. That includes the amount of the percentage as a penalty as well as the period. Paying off your loan early may impact your decision-making process in several ways, including financial and strategic factors. So the agreement has to be reviewed before taking a personal loan.
Make sure prepayments on personal loan are reflected in your CIBIL report:
Making prepayments might have an impact on your financial situation because it requires you to deal with financial obligations, which affects your CIBIL score. CIBIL score updates its database 45-60 days after your payment date or the information provided by your lender.
The reduced loan-due has a beneficial impact on your credit score. Zap Money offers instant personal loans for people with higher CIBIL Score.
Prepayment charges by top banks:
| Bank | Pre-payment charges |
| ICICI Bank | 3% of principal amount |
| State Bank of India | 3% of principal amount |
| Axis Bank | 2% of principal amount |
| Kotak Mahindra Bank | 3% of principal amount |
| Punjab National Bank | 3% of principal amount |
| Canara Bank | 2% of principal amount |
| Bank of Baroda | 3% of principal amount |
As per RBI guidelines, banks cannot charge foreclosure charges/prepayment penalties on floating-rate term loans sanctioned to individual borrowers. However, banks may charge prepayment penalties on fixed-rate personal loans as per their internal policies and guidelines.
Conclusion:
Prepayment penalties on personal loans in India are something that borrowers should be aware of before considering financing options.
Before applying for a personal loan from a bank or financial institution, the borrower should review the terms and conditions of their loan agreement. Understanding the prepayment penalty process can assist them choose an option for repaying their debt.
Also Read:
Things to know about Pre-closure charges
FAQ:
Why do banks charge prepayment penalties?
Banks charge prepayment penalties because banks lose their interest rate if the borrower repays their debt early.
Is a prepayment penalty allowed in India?
Some banks allow the borrower to prepay their loan amount in 6 months after loan disposal without a prepayment penalty. As per RBI guidelines, banks cannot charge foreclosure charges/prepayment penalties on floating-rate term loans sanctioned to individual borrowers
Does pre-payment affect CIBIL score?
No, pre-payment will not affect your CIBIL score
How is prepayment rate calculated?
The prepayment penalty amount is calculated by multiplying the outstanding principal amount (the amount you still owe on the loan) by the prepayment penalty rate set by the lender.
Does prepayment reduce EMI or tenure in personal loans?
Prepayment can minimize your debt of your loan principle amount, allowing you to reduce your personal loan duration.
