Timely financial assistance by way of a loan, whether personal loan or home loan, helps meet financial needs and fund assets. However, often because of poor financial planning, assuming debt in excess of one’s repayment capability or failing to repay loans within the due date, people find themselves falling into a debt trap.
To avoid this, let’s study a few smart ways one can apply to reduce loan stress.
1] Opt for a cheaper loan option:
It must be remembered that a loan, while being a source of easy credit, also involves the cost of repayment. Thus, one must shop for loans that offer competitive interest rates and swap to a lower cost option.
- Home loans: Let us consider the example of home loans, since a housing loan generally comprises the lion’s share of borrowings and is repaid over a long tenure of 10-20 years. Under the refinancing or loan balance transfer option, one can negotiate favourable terms and lower interest rate charges with a new bank for an existing housing loan. The new bank would transfer the existing loan to its loan books and charge a one-time processing fee of 0.5-1% from the customer. Thus, the savings are huge in the long run as the EMIs and the interest rate charged are lower. Of course, one needs to have a good CIBIL score (over 750) with no incident of default or delay in loan repayment, in order to avail this facility.
In simple terms, this means paying off one’s borrowings. Under this strategy of offloading debt, there are two popular approaches.
- All in one go: All debts, irrespective of the interest, are paid off systematically. This might work if one has several small loan amounts in the nature of personal loans.
- Size matters: Focus on the expensive, big ticket loans and pay them off, on priority. An example of such a loan would be home loan. One can channelise any income gains either from a salary hike or capital gains towards a higher EMI payment. A study indicates that a 5% increase in EMI payment drastically reduces the home loan tenure from 20 years to 12 years.
- Avail tax benefits: One must remember to avail tax benefits on eligible loans. Under Section 80C, you can avail tax deduction of up to Rs. 1.5 lakh on loan repayment of a home loan and stamp duty, registration charges towards a house property. Further, there is tax benefit under Section 24 on interest on housing loan. Interest paid on education loan is fully deductible. Thus, if the tax benefits are significant, it might be prudent to gradually repay such loans. Other loans, which have a repayment liability without any tax advantage may be closed first. Tax deductions bring down the effective cost of servicing certain loans.
3] Avoid the debt trap:
Easy access to plastic money or credit cards can result in a vicious spiral of further borrowing to pay off existing credit. Rather than just paying the minimum amount each month to avoid a fine, it is prudent to settle the outstanding dues. Further, one must use the credit card with discretion to fund essential purchases and not indulge in binge shopping.
The key to avoiding loan stress are financial discipline and financial planning. Both these strategies entail smart purchases at a discount or sale, opting for the best, low-cost loan options, postponing non-essential buys, being tax wise and last but not the least reducing one’s debt.