The Curious Case of Mr. Arora
Mr. Vijay Arora, was affable, cool as a cucumber and always smiling. Undoubtedly, he was a favourite among his peers. Friday night out with friends, every Sunday a movie and lunch with wife, family vacations, gifts for everyone in office and what not! You name it, he got it. But he had modest earnings. In order to please those around him, he spent money without a care in the world. Thanks to the magic of compound interest, his debt snowballed into a much larger amount. When he couldn’t keep up with his credit card and personal loan payments, he started feeling the pinch. What Mr. Arora indulged in was “self-liquidation”. A loan transfer was available. But should he take it? Or give it a pass?
When you feel you are drowning under the rising pile of bills and debt dues, you wish you could squirm out of it somehow. Alas, it is not that simple. Although it may seem there is light at the end of the tunnel with a Balance Transfer to another personal loan, but is it really as good as it sounds? So you have a personal loan and you take another to pay this one off. You have just hopped from one lender to another. How far would this “lender-hopping” be beneficial or is it just a wolf in sheep’s clothing? Let’s unravel the mystery shrouding this topic.
The Enticing Balance Transfer Offer
Let’s face it. It does sound very inviting. Technically speaking, there are quite a few pros to taking up this option.
- Lower rate of interest – If you are choking under your payments then shifting your loan to a lower rate of interest can give you some room for breathing. This can provide you with some much wanted relief and ease your pocket a bit. Do your maths before you jump on to it. With a clear mind, calculate the interest burden. Notice if there is a change in tenure and also factor in the processing fees and other one-time charges.
- Lesser Tenure – You may notice that your new loan has the same or marginally increased EMI. Depending upon your capacity to repay, this could mean good news. A lower tenure means you will be debt free earlier than you expected to be. This can be a huge boost to your financial confidence.
- Better management – If you are someone who is usually busy with other chores and often misses payments, then managing just one payment while you consolidate your other payments into a single payment, can make it really simple for you. You would feel more sorted and less burdened. Also, frequent missed payments would hurt your CIBIL score. Improve credit score through better management of your payments.
Mind your Step with the New Loan
You see, your best friend is none other than your own vigilant self. It can be easy to fall into a debt trap with alluring balance transfer options. Some of the cons against taking a BT are:
- New Charges, Fees and Terms – You took a loan for Rs. 5 Lakhs for five years about two years ago and you have crossed the lock-in period for prepayments. You have only three more years left to repay this debt. But the rate of interest of 15.5% is bogging you down. A new personal loan for 12.99% rate is available to you for the outstanding balance of 3, 66,000. Note that since the tenure will be reset to five years, with your new EMI you will save more than Rs. 2500 per month. This will be a breather.
But considering that you will have to bear processing fees once again, your lock in period will be reset again and you will remain in debt for a longer period dampen your plans of shifting. Also, shifting to the lower rate will mean that you will be paying more in interest to the tune of Rs. 15, 000 than what you would have paid at the higher rate of 15.25%. So unless you are really hard pressed to free up some cash in the short run, this could prove to be a costlier option.
- Taking a Secured Personal Loan – A standard personal loan is unsecured with only a promise to repay from the borrower as guarantee. In search of lower interest rate you may opt for a secured personal loan. Secured personal loans interest rates are lower as they need collateral like a Fixed Deposit to support the borrower’s promise. Although the rate is lower but in the event of non-repayment, you stand a risk of losing your asset. Whereas in an unsecured personal loan, your possessions are not under threat.
- Bring a Change in your attitude – Financial management revolves more around consumer behaviour than mathematics. Thus, if you are unable to reform your spending habits, you are likely to be worse off despite the balance transfer, than better off. Often, it has been noted over the years by several theorists that by doing a balance transfer and by saving a few bucks on the EMI, people are unable to curb their temptation to spend this extra cash. This ultimately leads them into further debt and eventually broke.
- Age of Debt on your Credit Report – You must be aware that older debt is more valuable than new credit accounts. Thus closing on an account which already two years old and consecutively opening another credit account, will lead to a drop in your credit score. This means you must avoid this prospect if you can. There will also be a marked effect on your score due to the effect on credit utilization ratio. By closing the old account and opening a new account with a revised lower limit will realign your credit usage rate in the upward direction.
What we Imply
Briefly speaking, you must weigh your options thoroughly. Incase, you feel that it is important for you to save money in the short run and you are willing to willing to be thrifty in future, then you can certainly opt to shift your loan. It may sound ironical but experts have good reason to believe that when you plan to shift to a lower rate of interest, instead of lowering your EMI keep paying the same amount of EMI. This way you will be debt free sooner than you imagined and you will pay a lot lower amount in interest.
In case of doubt feel free to contact a credit consulting firm that can guide you and plan the budget to suit your needs.
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