The joy of overpayment

Automated payments are a common feature of modern life. Whether it's paying your monthly mortgage or simply keeping up to date with the direct debits which come out of your bank account each month, it can sometimes feel like you are playing catch-up to your spending commitments.

One way of taking control and getting ahead of the game is to take the option of making monthly overpayments on your loan- effectively cutting down the period of time you have the debt to your provider.

The process of overpaying on loans was simplified by the EU's Consumer Credit Directive (CCD) which came into effect at the beginning of February. Under the CCD, borrowers can now make partial early repayments on all loans - in other words, you can clear your debt more quickly by choosing to pay more than the minimum set out in your agreement with your provider.

If you do suddenly find more funds coming in – perhaps you have an unexpected windfall, make major lifestyle changes or simply realise that you had erred on the side of caution in arranging the repayment options - then it could make sense to pay off your loan early, potentially freeing up your money to use for other things.

With some loans there has always been the option to pay it off early, but this had to be done as a lump-sum, and would usually attract a fee of one month's interest for doing so. Under the new rules lenders must allow you to make partial early payments, although they can charge you up to 1% of the overpayment for doing so, if you have a year or more of the loan term left to run. If you have less than one year left, this cost can be up to 0.5%.

Why pay more?           

So, with this new flexibility meaning that you are not tied to the repayment schedule decided at the start of the loan, what are the benefits of making larger payments? Well, you are likely to pay less interest overall on the amount you have borrowed, meaning you can then use your money for any other savings you may wish to make. It could make sense to do things this way round if the interest on your loan is greater than the interest you could earn by saving your money - so there is potentially a sensible argument for tackling things in this order.

Repaying your loan more quickly means that you could have more options about how you spend in the future. If, for example, you’re repaying a car loan when it needs an expensive repair, you may feel the pinch. If you own the car outright and don’t have to meet monthly repayments, you may find that you can afford the repairs without impacting on other areas in your life. You can find out how much you’re likely to save by using online calculators such as the one at Money Saving Expert.

Of course, this option isn't going to make sense for everybody. If you have other outstanding debts - for example on a credit card - on which the interest rate is higher than on your loan, it may make sense to pay these off first.

And as with any financial product, it always makes sense to check the suitability of a particular loan to your financial needs and circumstances before you commit to it.

Issued by Sainsbury's Finance