In short – yes – you can always pay back your personal loans early. However, you need to watch out for early repayment charges (ERCs) that you may have agreed to when you took the loan out. Even if your lender does not claim to have an ERC, you still need to watch out for hidden fees. Under Consumer Credit Regulations 2004 lenders can charge you up to 2 months additional interest if you decide to pay your loan off early. Many lenders will be open with you and call this an ERC, but others won’t, so before you pay off your loan early it’s good to check with your lender what the extra fees might be.

The cost of your early repayment charge will depend upon a number of factors and will differ from lender to lender. The Consumer Credit Regulations 2004 previously mentioned state the following:

• If you have less than 12 months left on your monthly repayment plan, lenders can charge up to 28 days’ interest.
• If you have more than 12 months left on your repayment plan, lenders can add an extra 30 days (or one calendar month).

You will therefore be charged one or two month’s interest, depending on the length of the policy you have taken out. Other fees may apply if your loan is for more than £8000, they could be:

• 1% of the amount repaid early if the agreement has more than a year left.
• 0.5% of the amount repaid early if the agreement has less than a year left.
• The remaining interest before the rebate.

If you are worried about how much it will cost to pay back your loan early, then it’s best to check with your lender before you begin the repayment process.

You may be wondering why lenders charge a fee for settling an outstanding loan early. After all, they're getting all their money back, which seems like a desirable outcome. However, there are reasons why early repayment isn't always as convenient for lenders as it seems. Some reasons for early repayment fees include:

Compensation for Lost Interest:

Lenders lose out on expected interest income when loans are repaid early. The fee helps recoup some of this lost revenue.

Financial Stability:

Predictable interest payments help lenders manage cash flow and financial planning. Early repayment fees help offset disruptions to this income stream.

Risk Management:

The fee mitigates risks associated with changes to the loan term and the need to reinvest repaid funds, which may not yield similar returns.

Encouraging Loan Retention:

By imposing an ERC, lenders discourage early repayment, promoting adherence to the original loan term and reducing administrative costs.

Legal and Contractual Compliance:

Regulations allow lenders to charge these fees to cover costs, ensuring they are not financially disadvantaged by early repayments.

As mentioned above, there is some confusion with many lenders regarding their ERC policy. This is due to some lenders counting the ability to charge for additional interest as an ERC and therefore not advertising that they will charge you when you pay off a loan early.

Checking your credit agreement is the best way to find out whether you will have to pay a fee for paying off your loan early, either before or after you have taken out a loan. The agreement sets out the terms for the borrower and lender to abide by. It should detail what happens if you decide to pay off your loan early.

The below tables lay out lenders that charge an ERC and those that claim they don’t charge an ERC.

Lenders that charge ERC:

Lenders that claim not to charge ERC:

The above tables may not be up to date – please check with your lender about their current ERC policy before applying for a loan or making an early repayment.

Paying off a loan early can have a minor and often temporary impact on your credit rating. When you close a loan account, it could shorten the average age of your credit accounts, which might slightly decrease your score, especially if it was one of your oldest accounts. Additionally, it reduces the diversity of your credit mix since you’ll have fewer types of active credit accounts, such as instalment loans, which might affect your score.

However, there are also potential positive effects. Reducing your overall debt by paying off a loan improves your debt-to-income ratio and lowers your debt utilisation rate, which can positively influence your credit score over time. Moreover, completing loan payments early prevents the risk of missed payments, contributing positively to your credit history.

To minimise any negative impact, keep other credit lines active and avoid closing credit accounts unnecessarily to preserve the length of your credit history. Also, consider monitoring your credit report regularly to ensure accuracy and understand any changes in your score.

The amount you can save from paying back your loan early will depend upon the size of your original loan, the interest rate on the loan, and the length of time left on the loan term.

For example, if you have few repayments left to make and a low interest rate then you probably won’t save too much. However, if you take out a large loan with high interest rates and decide to pay it back with a few years left on the final repayment date, then you may save thousands.

It is always worth contacting your lender directly and asking for a calculation of how much you’d owe in total with normal monthly repayments vs. how much you’d have to pay if you paid off the loan early. You can then compare the two and see how much you would save.

While early repayment is a popular method to save on loan interest, there are several other strategies you can employ to reduce your overall loan costs:

Refinance Your Loan:

Refinancing involves taking out a new loan with better terms to pay off an existing loan. This can be beneficial if interest rates have dropped since you took out your original loan or if your credit score has improved, potentially qualifying you for a lower rate.

Negotiate Lower Interest Rates:

Many lenders are open to negotiation, especially if you have a good payment history or improved credit score. Contact your lender and discuss the possibility of reducing your interest rate. Even a slight reduction can result in significant savings over the life of the loan.

Increase Monthly Payments:

By paying more than the minimum monthly payment, you can reduce the principal balance more quickly, which in turn lowers the amount of interest you’ll pay over the life of the loan.

Opt for a Shorter Loan Term:

If feasible, switching to a shorter loan term can reduce the total interest paid. While this might increase your monthly payments, the reduction in interest costs over time can be substantial.

Deciding whether to pay off a loan early depends on various factors, including your financial situation, how much interest you have remaining, and any early repayment charges (ERCs) you might incur.

If the early repayment charge is equivalent to two months' interest but you only have a year of interest left to pay, the benefits of early repayment may be minimal. Conversely, if you have several years of interest remaining, paying off the loan early can result in substantial savings, even after accounting for ERCs.

For loans with high interest rates, considering a debt consolidation loan might be beneficial. This approach can pay off the existing loan, potentially saving money in the long run despite any ERCs. It’s important to compare the total cost of continuing with your current loan versus the cost of early repayment, including any charges.

When you take out a loan you have a 14 day ‘cooling off’ period in which to cancel your agreement. Of course, you will have to repay all the money you have been loaned within 30 days, and the lender is legally allowed to charge you interest until they receive the loan back.