We understand how stressful borrowing money can be, especially when you’re dealing with an emergency that you hadn’t planned for. One of the toughest parts of this process for a lot of people is trying to understand how much your loan is going to cost you in the end. But we’re here to help! We’re going to do our best to help you understand what some of the most important factors are to consider when you’re trying to calculate the cost of borrowing money.
1. Interest Rates and Annual Percentage Rate (APR)
The first step in figuring out the cost of borrowing is understanding the interest rates and the Annual Percentage Rate (APR). Interest rates will tell you how much money you’ll need to pay a lender on top of repaying the amount you borrowed (known as the principal balance).
The APR includes both the interest rate and certain upfront fees you might have to pay, like origination fees or closing costs. Lenders are required to disclose the APR, which helps borrowers compare the cost more effectively. However, not all financial products or servicers use APR, so it’s important to review the terms.
If you want to get a loose idea of how much interest you might pay on something like an installment loan, you can you this loan calculator to test out different interest rates and loan terms.
2. Loan Fees and Additional Costs
Beyond the interest rate and APR, you’ll want to pay attention to the specific fees and extra costs that can come with borrowing. These fees can be things like credit card fees, processing fees, prepayment penalties, late payment charges, and more. While they may seem minor, they can add up over time.
Prepayment penalties are fees charged if you pay off your loan earlier than the agreed-upon term. It's important to know about these penalties if you think you might want to pay off your loan early, as it could raise the overall cost of your loan.
Late payment charges happen when you don’t make your payments on time. These fees can vary depending on the lender and loan agreement. If you think you’re going to miss an upcoming loan payment, you’ll need to factor that into the overall cost.
3. Duration of the Loan
The term of the loan – how long you’ll have to pay it back – is going to impact the cost of borrowing. While longer-term loans generally have lower monthly payments, you may have to pay more in interest in total. Shorter-term loans, on the other hand, may have higher monthly payments but you won’t pay as much once you’ve finished paying off the loan. To help you figure out how much you’ll need to repay in interest over your loan term, multiply the monthly payment by the number of months in the loan term.
For example, a $500 monthly payment over five years equates to $30,000 in total repayments. Just remember that you can only do a calculation like this if the interest rate on your loan is fixed and the type of loan you’ve been approved for has a predetermined payment schedule, like an installment loan.
For example, a $500 monthly payment over five years equates to $30,000 in total repayments. Just remember that you can only do a calculation like this if the interest rate on your loan is fixed and the type of loan you’ve been approved for has a predetermined payment schedule, like an installment loan.
It's important to think about your financial situation and long-term goals when you’re considering a loan with a long repayment term.
4. Considering Early Repayment Options
Like we mentioned, one of the fees that some lenders will charge is early repayment fees. The potential for early repayment is something you’ll need to consider. Some loans allow borrowers to pay off the debt before the scheduled term ends, which can help you save money on interest payments.
On the other hand, some lenders will charge you extra for making early payments. Having said that, there might be times that taking the penalty might be worth the cost if it’s going to save you enough money on interest payments in the long run. It’s important you take the time to decide what’s best for your financial situation.
By factoring in early repayment options, you can get a more accurate understanding of the cost of borrowing and can make informed decisions about paying off your debt efficiently while considering potential savings and opportunity costs.
Disclaimer: The information contained within this article, including any references to companies or products, are for informational and educational purposes only and are not a substitute for individualized financial and/or legal advice. We are not a credit repair organization as defined under federal or state law and we do not provide "credit repair" services or advice or assistance regarding "rebuilding" or "improving" your credit. We make no representation that we will improve or attempt to improve your credit record, history, or rating through the use of the resources provided through the FreshStart Blog or CreditFresh website. The views and opinions expressed by any guest contributors, as applicable, are solely those of the author and do not reflect the views of CreditFresh.
