There are times when you urgently need a financial cushion to fulfil some of your personal needs. At such times, the natural urge is to opt for personal loans from a bank or financial institution. During times of crisis and emergency, the interest rate of such loans could be higher, but because of the dire need for finances, you take that personal loan. When you realise that the repayment is becoming difficult due to high interest rates, you want to lower the interest burden and reduce your EMIs. You are looking for better interest rates that fit your current budget and more time to pay off your debt, and this is when refinancing your personal loan can be beneficial and easy on your budget. Let us understand in detail what refinancing a personal loan is, and how to refinance a personal loan?
What is Personal Loan Refinancing?
Refinancing a personal loan involves taking out a new loan and using that money to pay off one or more existing/outstanding loans. While refinancing is an option that an individual can choose, getting lower interest rates or reducing their repayment amount is highly beneficial. It can also be helpful for people to reduce their monthly repayment by extending the loan term. In short, personal loan refinancing helps you save money with lower interest rates, better loan agreement terms, lower fees and more time to pay off your debt. Borrowers also refinance their loans so that they can pay them off quicker – that is, you can refinance your personal loan to shorten the loan tenure so that you can save up on the interest in the long run. The primary reason borrowers refinance is to get a more affordable loan as per their budget and repayment capabilities or tweak the existing loan structure to suit their needs and budget. While you choose to refinance your personal loan, the new bank/lender will take over the loan from your existing lender, and therefore, will need to pay all the future EMIs to the new lender.
When Should You Opt for Personal Loan Refinancing?
- When A Lender Offers Attractive Interest Rates
If a lender is offering a lower interest rate, refinance your personal loan is a good idea. If you have to pay a higher interest rate in the existing structure, it is good to take advantage of a better offer. It would mean paying lower EMIs every month
- When you have a better credit score
Lenders periodically offer better offers and attractive deals on processing fees and interest rates, and this is often done when your credit score starts looking good. Suppose your CIBIL score has improved over a while since your last loan application. In that case, you may get great deals on instant personal loans, and you could grab that offer by refinancing your existing personal loan based on an improved credit score.
- When You Want to Avoid a Balloon Payment
A balloon payment is the lump sum payment attached to any loan or mortgage, and this is usually made towards the end of the loan period and is higher than what you pay every month. Some personal loans are accompanied by the balloon payment. If you cannot deliver it and want to avoid this payment, you can choose a refinance option that doesn’t come with these stipulations.
- When Your Income Has Increased And You Want To Pay Off Loans Faster
If there has been a considerable rise in your income level and you want to clear off your loans faster, then opting for loan refinancing to shorten your loan tenure is a good idea. As you can afford large monthly payments, you can reduce the term by refinancing this loan, which will save your overall interest outgo.
- Your Income Has Been Reduced, And You Wish To Extend The Loan Term
If you were in a situation where you have lost your job or faced a pay cut, you might want to extend the loan term to lower your monthly repayment towards the loan. In such cases, you can refinance your current loan for a longer repayment term.
- When You Want To Switch Your Variable Rate
If you have a variable Annual Percentage Rate (APR) on a personal loan, it isn’t easy to make your monthly repayments in a planned manner. You may also end up shelling out more in certain months. If you opt for refinancing your existing personal loan, you can change the variable rate to a fixed one to pay a fixed sum as repayment every month and throughout the loan tenure.
- When You Change Or Delete Co-applicant From The Loan
When you refinance your current personal loan, you will have a new set of terms and conditions in the loan agreement, and you will be in a position to delete or add a co-applicant to your loan account.
Also Check: How to Get a Personal Loan? – A Complete Guide
Steps to Refinance Your Personal Loan
Understand The Terms
Understand and compare the rates and terms of the new loan among different lenders and compare their times with your existing loan as well. Make sure to know the details of prepayment penalties, if any, with the current loan. It would help if you studied the Lower interest rates and flexible options well and should do a cost-benefit analysis. It is critical to look at the fine print as there could be hidden charges and application costs. Also, understand if the existing lender can refinance the loan by offering flexible terms.
Check Your Credit Score
Checking your credit score is crucial while going for a loan to refinance your existing personal loan. A higher score will give you a better interest rate from the lender. The ideal score could vary between lenders, but anything above 650 is most likely ideal for refinancing options. The higher this score, the better it is to avail a loan with a low interest rate. Make sure to keep working on improving this score as a borrower.
Determine The Exact Loan Amount
An important step is to understand the exact amount required to refinance your existing loan that fits your budget, interest rate, loan term and more. You are paying off an existing loan with a new one based on terms that are easy on your budget, so it is crucial to fix this amount once you have compared the rates and terms of the lenders.
Apply For The Loan
Once you have selected the lender based on your requirements, the next step is to fill out the required forms and furnish all the documents sought by the bank. All documents relating to your income, tax returns and the existing loan will have to be furnished. Once this procedure is complete, wait for a few days for the funds to be approved and credited.
Settle The Original Loan
Once the new loan amount has been credited, you can use it to pay off your existing loan. Make sure to close this account without any delays and penalties. Get written confirmation that this loan is closed.
Start paying off the new loan
Once you have closed your original loan, you can focus on the new loan repayment. Make sure you repay this loan based on the new terms regarding loan term, interest rate, etc. Do not default on this payment as it will badly impact the credit score, and besides, regular repayment of the new loan will improve your credit score and history.
Top Private Lenders Offering Personal Loan Refinance
|Name of the Bank||Interest Rate (p.a.)||Benefits Offered|
|ICICI Bank||11.29% onwards||No security or guarantor required
Facility to top-up loan
|IndusInd Bank||–||Hassle-free transfer
Low processing fees
|HDFC Bank||11.39% onwards||Competitive interest rate
Low processing fee of Rs.1,999
Top-up facility available
|Kotak Mahindra Bank||–||Quick processing and disbursal
Additional top-up loan available for up to 100% of the personal loan amount
Flexible repayment options
Types of Refinancing
- Rate-and-term refinances: The goal of this refinancing is to save money in the long run. Refinancing is where you get a lower monthly payment or less overall interest. It is due to a lower interest rate or a shorter loan term.
- Cash-out refinances: In cash-out refinancing, an asset such as a house serves as collateral. As the value of this collateral increases, the asset’s equity will be withdrawn and exchanged with a higher amount. Instead of selling the asset, you gain a higher value by taking out a loan.
- Cash-in refinances: This is the opposite of cash-out refinance. Under cash-in refinance, the borrower gets cash to clear the loan to pay down the loan balance and lower the amount owed to the lending institution.
Pros and Cons of Refinancing a Personal Loan
- Lower Interest Rate
A lower interest rate is the biggest benefit of refinancing a personal loan. Suppose your existing lender has a high interest rate. In that case, refinancing is an excellent option to lower the overall interest, and this will also bring down the EMIs to a great extent.
- You Can Adjust The Loan Term.
The tenure of the loan term can be adjusted based on your income and repayment capacity at that time. If the repayment is burdening your finances, you can go for a longer tenure when you refinance your loan, and if your income has increased, you can use the refinanced loan to decrease the loan term and close it quickly.
- Switch from Variable to Fixed Rate
When you refinance your existing loan, you can change the repayment structure from a variable rate to a fixed rate and give a fixed sum every month instead of the variable amount you were paying for your original loan.
- Lower APR
You may be able to get a lower Annual Percentage Rate (APR) on the refinanced loan if your credit or income has improved.
- You may have to incur a prepayment penalty on your existing loan.
- Refinancing of loans may affect your credit score if lenders go for a hard credit inquiry.
- Taking out a refinance loan may incur origination or application fees from the new lender. All the initial costs will have to be factored in before refinancing your existing personal loan.
- Understand prepayment and foreclosure charges applicable for banks when clearing your existing loan.
- Do a thorough homework of the interest rates, fee and repayment structure and terms before zeroing in on the lender for refinancing. Make sure you get the best deal possible.
- When going for refinancing options, make sure to check whether the lender is demanding an application or origination fee. Read customer reviews of the lender to get insights into their credibility.
- Have all the necessary documents, such as income proof, bank statements, tax returns etc., ready when approaching a lender.
- Keep a good credit score. You can get a reasonable interest rate if your credit score is high, which will help you in the long run when repaying your new loan.
- Do a cost-benefit analysis to check how much you stand to gain if you refinance your loan. Make sure it helps you save your money in the long run.
- Do not get into a continuous cycle of debt. If you are constantly taking loans to pay off existing loans, you are extending your debt timeline, which may prove detrimental.
Refinancing a personal loan is a good option, if it puts you in a better financial position by lowering your monthly repayments or EMIs or shortening the term of the loan without additional costs. The most crucial step is to understand the existing loan agreement and the terms of the new loan agreement. While a variety of options are available and a host of services tailored to your needs, A comprehensive review and research of the terms, interest rates, monthly repayment, tenure and details of initial costs and understanding the risks will help you determine the best refinance option that fits your financial goals.