This is a post by Katie, who writes for numerous daily news websites and blogs about personal finance and saving money. For more information on dealing with debt and advice on saving money, Katie recommends visiting the Fox Symes blog.
Debt is one of those things in life that you know you’d simply be better off without, so if it’s already looming over your head you’re probably wishing there was a faster and more effective way to get rid of it. Lump sum payments are a beneficial approach to clearing debt faster – here’s how it works.
Reducing the Term
By paying lump sum payments you’ll be reducing the time it takes you to pay off your debt. The larger the lump sum amount, the smaller the remaining debt, so each time you make a lump sum repayment you’re taking time off your loan, not just money.
The interest on a loan is calculated based on the remaining amount. Each time you make a lump sum payment you’re reducing the remaining amount and, therefore, reducing the calculated interest. This means you’re actually reducing the amount of interest you’ll be paying overall, and consequently shrinking the end amount you’ll have paid.
Earning Interest vs Paying Interest
Saving all of your money rather than using at least a portion of it to make lump sum payments on your debts is usually the less favourable option in terms of interest. In most cases, the interest you’ll be earning by keeping the money in a savings account will be much less than the interest you’re being charged on your debts. It may be tempting to hold on to the money in savings, but it’s costing you much more to keep it.
Removing the Temptation to Spend
By paying lump sum amounts on your loan you’re removing the temptation to spend that money on other things. Once it’s been paid back to your debtor you can’t spend it, so it’s getting you out of debt rather than helping keep you there.
Beating the Interest Free Periods
It’s particularly beneficial to pay in lump sum amounts if your debt relates to a credit card, loan or purchase boasting an interest free period. Generally this is a tactic to draw in customers who are often unprepared for the high interest once this interest free period expires. By paying off your debt in lump sum before the interest free period is up, you could be saving yourself a huge amount in interest and fees, and paying much less overall for your purchases.
Taking out a loan for debt is another way of paying off owed amounts in lump sum. Through debt consolidation all of your smaller personal debts are paid off by a new loan. If your loan for debt is through a reputable provider like Fox Symes, for example, ideally you will be able to benefit from a lower interest rate and perhaps more favourable terms.
Voluntary Repayment Bonus
If your debt is a student loan, the Australian government offers a voluntary repayment bonus for students and/or graduates making lump sum payments on their HECS-HELP loans. This means a bonus of 5% is offered for repayments of $500 or more, credit 5% of the payment back to the student’s account. This is a great way to clear your student debt much faster and reduce the end amount paid. (Ed: The IRD offers a 10% bonus on extra voluntary repayments you make on your NZ student loan.)
It’s pretty simple really; the more you pay, the less you owe. Lump sum payments are the best way to manage debt, and while you may feel the sting of larger payments now they’ll save you much more money in the long run.